Jeremy Hunt warned not to spook markets with unfunded budget tax cuts – business live

Q: Is there a case for increasing borrowing now, in the short-run, to prime the pump so the economy grows faster in the long run – bringing down the debt and the deficit in the long term?

The IFS’s Carl Emmerson says the risk of cutting taxes or increasing spending now, to lift growth, is that the Bank of England would say “hang on, we’re worried about that injection of cash into the economy”.

If the Bank doesn’t see spare capacity in the economy, they could raise interest rates or simply lower them less quickly in response.

The argument is different for long-term investment. There may well be investments which could be done well, and deliver a return above the long-term cost of borrowing.

Emmerson points out that the UK has been able to borrow at low costs in recent global crises (such as Covid-19); the danger is a UK-specific crisis which prompts international investors to demand a higher rate of return when lending to us.

Q: Why are there differences between the OBR and Bank of England growth forecasts? (see earlier post). Have they explained why they disagree?

The IFS’s Carl Emmerson says the OBR provides more information about its forecasts than the BoE, which doesn’t really give much insight into what’s behind its projections.

He points out that the BoE has been more pessimistic about the impact of Brexit, which may explain why it forecasts slower growth than the OBR.

Or it could be because the BoE forecasts are trying to reflect the collective view of the members of the Monetary Policy Committee (the nine policymakers who set interest rates).

Q: Do fiscal pressures mean the State need to stop doing some things?

IFS director Paul Johnson says the UK has a decision to make – it can keep providing the current public services, if people accept that taxes will remain at their current levels, and possibly rise higher over time.

The UK has been struggling to avoid this for a long time, Johnson adds – pointing out that in other countries the tax burden rose in the 1970s, 80s and 90s, while the UK’s didn’t.

We’re sort of catching up with them, although we haven’t broadly caught up with the rest of Western Europe.

Some state commitments have been dropped since the 70s, Johnson points out – we’re not subsidising nationalised industries, or building public housing, while there’s a lot more private finance in higher education.

Defence spending has been “dramatically cut”, Johnson adds. But that’s now likely to rise in the next few years.

It’s hard to see where further deep spending cuts can be made, Johnson adds, given how many public sectors – such as local government, justice, prisons and social care – are already struggling.

My guess is that we’re more likely to end up with higher taxes than we are with the state withdrawing from some provision.

But that is a conversation we ought to be having, and we’re not.

The IFS are now taking questions about next week’s budget.

Q: Are the current fiscal rules sensible? How realistic is it to be able to predict the size of the economy, and the difference between two large numbers, five years into the future.

[this refers to the goal of showing debt falling as a share of GDP in five years time].

IFS’s Carl Emmerson says it’s sensible to have forward-looking fiscal targets.

He says the chancellor has another fiscal rule, to be on course to be raising enough revenue to pay for spending in three years time.

That’s good, as it gives flexibility if the economy suffers a shock.

But it still allows a chancellor to “pretend” to have plans to raise taxes or to cut spending, to hit a target in future.

Emmerson adds that there is always huge uncertainty over what the economy will be like in five years time; chancellors should look at the ‘central forecasts’, and build in some margin for error in case of shocks.

He adds:

The forecasts we have are the best guide to the future that we have.

What if Jeremy Hunt decides to ignore the IFS’s advice, and decides to cut taxes next week?

IFS deputy director Carl Emmerson says there are more growth-friendly options than cutting income tax or national insurance.

Cutting stamp duty on property purchases, or on shares, would be more growth-friendly, Emmerson says.

UK borrowing in 2023–24 is now on course to be £113bn, the IFS estimate, which is £11bn less than forecast by the OBR in November.

But it’s still a high amount, the IFS point out today – and “much bigger than forecast two years ago”.

Debt is “barely on a downward trajectory” in five years time, despite the forecasts being predicated on unspecified cuts to public spending after the election.

The IFS’s Carl Ammerson says:

Clearly the risk here is that whoever is chancellor after the election might be unable or unwilling to deliver on those spending plans.

Therefore, the IFS thinks any fresh tax cuts should be delayed until a detailed Spending Review has been held, rather than implementing further tax cuts now that are “paid for” by uncertain spending cuts in the next parliament.

The UK’s growth prospects will determine how much wiggle-room the chancellor has for tax cuts or spending increases, while still having debt falling in five years.

The IFS point out that the Bank of England’s growth forecasts are rather less optimistic than those of the Office for Budget Responsibility – the independent group who will give their assessment of the budget.

Carl Emmerson, deputy director of the IFS, runs through the context for the budget on 6 March.

Emmerson points out that UK GDP growth has been "abysmal”, with GDP per head still not above its level in 2019.

The backdrop here is a terrible period of growth going back to 2008.

That period covers the great recession after the financial crisis, the very weak recovery afterwards, the Covid-19 pandemic and lockdowns, and the recent stagnation over the last couple of years – culminating in the current technical recession, Emmerson says.

The Institute for Fiscal Studies are presenting their analysis of Jeremy Hunt’s options for the Budget now – you can watch here.

IFS director Paul Johnson starts by saying next week’s Budget is hopefully, but not necessarily, the only fiscal event of 2023.

He explains:

It may be the first of two, if we get another one before the election, as Jeremy Hunt has threatened.

It may be the first of three, if we get one before the election and an emergency budget after the election.

Marks & Spencer is lifting its pay rates for staff, so that every employee in store will receive at least the Real Living Wage as their base pay.

From 1 April, its 40,000 UK customer assistants will see their pay rise by 10.1%, from £10.90 to £12.00 per hour, worth around £180 per month.

Customer assistants working in London are getting a 9.1% rise, from £12.05 to £13.15 per hour.

For M&S’s UK Team Support Managers, the hourly rate will increase from £12.20 to £13.05, while for those in London, it will increase from £13.35 to £14.20.

The changes will cost M&S £89m.

The real Living Wage, which is based on the cost of living, is £12 or £13.15 in London.

The minimum wage (badged as the “national living wage”) is rising to £11.44 an hour in April.

From 1st April, M&S is also introducing six weeks’ paternity leave at full pay, and doubling its maternity and adoption leave to 26 weeks – also at full pay – at a cost of £5m per year.

Demand for bricks in the UK has weakened – a worrying sign for growth in the construction sector.

Brickability Group, the construction materials distributor, told shareholders this morning that sales volumes of bricks have been “significantly” lower in the past year.

UK despatches are down around 30% last year and imports into the UK have fallen by 42%, reflecting the drop in housebuilding activity as high interest rates have hit demand.

Brickability has warned that lower levels of demand for bricks and associated building products are likely to persist through to the end of the current financial year, meaning its profits will be at the lower end of expectations.

Shares in Brickability have fallen by 12%.

A decade ago, homebuilders were facing a brick shortage, as suppliers struggled to keep up with strong demand for new houses.

The Institute for Fiscal Studies have just posted a detailed thread, showing why there is only a “weak economic case” for sizeable tax cuts in next week’s budget:

In the City, asset management giant Abrdn is pressing on with cutting 500 jobs as it tries to transform its fortunes.

Abrdn was formed in 2017 by the merger of Standard Life and Aberdeen Asset Management, and shed most of its vowels in 2021.

Today, it reported that its operating revenues fell 4% last year to £1,398m, due to “outflows and adverse markets”.

Operating profits shrank by 5% to £249m, with Abrdn reporting net outflows of £17.6bn last year across its businesses.

Assets under management dipped by 1% to £494.9bn.

Stephen Bird, chief executive officer of abrdn, says:

“Over the past three years we have reshaped the business to fit the modern investment landscape. We now have content and distribution aligned to the products and services clients need, and we are better positioned for future growth.”

“The investment industry faced further structural and macroeconomic challenges during 2023 with a ‘higher for longer’ rate environment across developed economies adding sustained pressure on most asset classes.”

Last month, Abrdn announced it would cut 500 jobs, including at its head office and in its back office support teams.

Today, Abrdn says the implementation is expected to take place primarily in 2024, and will be completed by the end of 2025.

John Moore, senior investment manager at RBC Brewin Dolphin, says abrdn has been in “more or less a constant state of flux” for the past few years, adding:

This challenging backdrop is reflected in today’s mixed results, which has some signs of bright spots but also highlights areas for improvement.

Interactive Investor remains the stand-out performer and the growing diversification of abrdn’s business is helping to steady the ship. However, another transformation programme introduces a degree of uncertainty and the uncovered dividend feels too high at its current level for the period of change the company is going through.”

There’s good news to report on inflation this morning.

First, shop price inflation has fallen to its lowest rate in nearly two years, according to the British Retail Consortium.

The BRC reports that shop price annual inflation eased to 2.5% in February, down from 2.9% in January, which is the lowest since March 2022. Food prices rose by 5% over the last year, and dipped by 0.1% during February alone.

Helen Dickinson, chief executive of the British Retail Consortium, said:

Food prices fell month-on-month with drops in fresh food including meat, fish and fruit. This was driven by easing input costs for energy and fertiliser while retailers competed fiercely to keep prices down.

In non-food, inflation for furniture, electricals, and health & beauty products rose, but the price of clothing continued to fall as many retailers kept promotions in place to entice consumer spend.

Secondly, data firm Kantar has just reported that gocery price inflation has fallen to a two-year low.

Kantar’s data shows that supermarket prices were 5.3% higher than a year ago in February, the lowest rate since March 2022, down from 6.8% in January.

Fierce competition among supermarkets is offsetting the cost of disruption to Red Sea shipping routes, Kantar’s report shows, as grocers pass on falls in raw material costs to consumers.

Falling inflation doesn’t mean prices are falling, of course – they’re just rising at a slower rate.

But that should please the Treasury and the Bank of England, as the latter tries to bring inflation down to its 2% target and keep it there.

A further squeeze on public spending would further compound the medium-term challenges for an incoming Labour Party-led government, says Mujtaba Rahman, managing director at Eurasia Group.

Labour would be forced to either raise taxes or deliver on the Tories’ spending cuts, Rahman points out in an analysis piece this morning.

Rahman says:

The chancellor has already pencilled in cuts of £20 billion over the next few years in what Labour regards as a “scorched earth” policy designed to create a rotten inheritance for the party if it wins power.

Rahman adds that Britain’s fall into recession is “politically toxic” for the government, and risks blowing a hole in Sunak’s reputation for economic competence.

He says:

Tory backbenchers privately fear that headlines about “the R-word” (recession) have not only handed Labour the slogan of “Rishi’s recession” but will also deter people from spending, which could in turn compound the UK’s growth problem.

The Times are reporting this morning that Hunt will use next week’s budget to cut national insurance, rather than income tax, and annnounce a new levy on vaping.

They say the budget on March 6 is expected to be far more limited than last year’s autumn statement, as forecasts suggest he will have much less money to spend than expected.

According to The Times:

The two main tax cuts expected in the budget are a 1 percentage-point reduction in employee national insurance, at a cost of about £4.5 billion a year, and an extension of the fuel duty freeze at a cost of £1 billion a year.

More here (£).

Jeremy Hunt’s financial planning is “dubious” and “lacks credibility” and the chancellor should not announce tax cuts in next week’s budget if he cannot lay out how he will fund them, an economic thinktank has said.

The Institute for Fiscal Studies (IFS) calculates that Hunt would need to find £35bn of cuts from already threadbare public services if he plans to use a Whitehall spending freeze to pay for pre-election giveaways.

A fresh round of austerity in unprotected departments would boost the chancellor’s war chest for tax cuts, the independent tax and spending watchdog said, but an increase from an expected £15bn of headroom to about £50bn over the next five years would come at a high cost.

The IFS called for vague pledges to reduce spending to be replaced with concrete plans on where savings could be achieved, given the likely hardship and difficulty of achieving further reductions. Its report said:

“The economic case for tax cuts is weak. The public finances remain in a poor position.

More here:

Good morning, and welcome to our rolling of business, the financial markets, and the world economy.

With just over week to go until the budget, Jeremy Hunt is being warned not to risk unfunded tax cuts that could cause ructions in the financial markets.

The chancellor is understandably keen to offer some pre-election sweeteners, in the hope of closing the gap with Labour. City economists, though, warn that there may not be as much fiscal firepower to play with as Hunt would like.

ING, the Dutch banking group, estimates that the money available for tax cuts – so-called “headroom” – now equals £18bn. That’s up from £13bn in November, but lower than estimated a few weeks ago, as the City has cut it expectations for Bank of England rate cuts.

This headroom is the amount of money the chancellor can spend, and still hit his fiscal rule – to have debt falling, as a share of GDP, in five years time.

£13bn could, potentially, allow the chancellor to cut income tax by 2p in the pound – as a 1p cut to the basic rate of income tax is slated to cost roughly £7bn/year. That wouldn’t leave very much left over, though.

As ING’s developed market economist, James Smith, puts it in a research note this week:

The situation is tight. And it’s possible our estimate of headroom is too optimistic.

What about cutting spending, though, to free up money for tax cuts? ING says such spending restraint looks “unrealistic”, given the government’s current plans already imply more painful austerity for departments.

Talk of tax cuts will revive visions of the 2022 mini-budget debacle, when Kwasi Kwarteng crashed the pound and the bond markets by announcing unfunded tax cuts, without any scrutiny from the independent Office for Budget Responsibility.

The situation is different this time – the OBR will give its verdict as soon as Hunt sits down next Wednesday after delivering the budget.

Smith says that funding tax cuts today with unrealised and potentially challenging spending cuts tomorrow may “raise a few eyebrows among investors”, but in reality this wouldn’t be a new approach.

Smith told The Guardian:

“The savings earmarked so far are already very challenging and further savings appear unrealistic.

Talk of tax cuts inevitably triggers memories of the 2022 mini budget crisis, where UK government borrowing costs rose precipitously following a package of unfunded measures designed to boost growth.”

He warns, though, that fresh tax cuts could still apply some upward pressure on yields – the measure of Britain’s borrowing costs.

ING’s gauge of risk premium in the government bond market suggests investors are still keeping an eye on UK fiscal risk – with UK borrowing costs higher than Germany’s, but in line with the US.

Sizable cuts to income tax would add further impetus for the Bank of England to keep interest rates on hold a little longer, ING predicts, meaning more pain for borrowers and a delay to rate cuts.

ING reports that market conditions in the currency market are calm, which should please Hunt.

They say:

When it comes to FX markets, current market conditions could not be more different than those that prevailed at the height of the Liz Truss debacle.

But, they warn that if the chancellor was to “misread the mood of gilt investors and cause another upset”, sterling would take a hit.

ING add:

Short-term models suggest a 2% sell-off in sterling could happen quite easily were investors to again demand a risk premium of sterling asset markets.

The Institute for Fiscal Studies are pointing out this morning that UK taxes are heading to record-high levels, as a share of national income.

They warn that the public finances face an ‘unhappy outlook’, with debt high and rising, and barely on track to start falling in five year’s time.

In a warning shot to Hunt, they say:

Unless the Chancellor is willing to spell out where the cuts will fall, the temptation to scale back provisional spending plans further to ‘pay for’ new tax cuts should be avoided.

We’ll hear more from the IFS this morning, as they present their analysis of Hunt’s options ahead of the budget.

The agenda

• 8am GMT: Kantar’s latest UK supermarket sales and market share data

• 10am GMT: Institute for Fiscal Studies presents Spring Budget 2024: the Chancellor’s options

• 1.30pm GMT: US durable goods orders for January

• 1.40pm GMT: Bank of England deputy governor Dave Ramsden gives keynote address at Association for Financial Markets in Europe’s Bond Trading, Innovation and Evolution Forum