When PARC invited Institute for Fiscal Studies Director Paul Johnson to do our annual economic update, we didn’t foresee that the end of 2022 would feature quite this level of political and economic volatility. We said in our 2021 Future Fit Workforce report that the 2020s would be a challenging decade but we didn’t think it would get this challenging this quickly.
The 2020s is already looking very different from the 2010s. The decade began with a global pandemic and the shocks keep coming. A long period of peace in Europe shattered by the first invasion of one country by another for 80 years. Ten years of low inflation and low interest rates giving way to rising prices, increased borrowing costs, and supply side disruption. The assumption of geopolitical stability and security upon which many business decisions were based has been shattered.
Unfortunately, one feature of the 2010s has persisted – that of sluggish GDP growth in the advanced economies. After the post pandemic bounceback, GDP growth is returning to the pattern of the 2010s, dubbed ‘synchronised stagnation’ by The Financial Times at the end of 2019. The IMF’s six-monthly World Economic Outlook downgraded its forecasts yet again in October 2022, predicting GDP growth for the advanced economies of well under 2 percent until the middle of the decade.
Slow growth brings significant fiscal challenges. Despite initial optimism, the major advanced economies never managed to get their Debt-to-GDP ratios back to where they were before the 2008 financial crisis. The need for extra public spending during the Covid pandemic saw massive additional borrowing. Historically, countries have reduced their Debt-to-GDP ratios through rapid economic growth, but a low growth world leaves them caught in a trilemma. With ageing populations and climate change putting even greater demands on the public finances, countries can’t reduce their deficits, maintain public services and avoid tax increases. With some difficulty, they might be able to do two of those things but they certainly can’t do all three.
Yet in September 2022, the UK government announced that it could do just that. Break out of the trilemma with tax cuts that would stimulate economic growth enough to cover the the additional subsidies it had put in place to cover rising fuel costs. It claimed that, with an associated package of reforms, it could achieve an annual growth rate of 2.5 percent. (Some commentators have said that the level of growth would need to be higher still). The trouble is, not only have the major economies struggled to maintain that level of annual growth since the 2008 financial crisis, but there is no evidence to suggest that the measures proposed would make much difference. In the absence of a report by the Office for Budget Responsibility (its fiscal watchdog), no-one believed the UK government – and traders dumped its bonds and currency. At a stroke, the government had made a bad situation worse by adding inflationary pressure and increasing its borrowing costs.
As is usual in these situations, the media turned to Paul Johnson as their go-to man for comment. His response was scathing:
“Today, the Chancellor announced the biggest package of tax cuts in 50 years without even a semblance of an effort to make the public finance numbers add up.”
In the absence of an official forecast, the IFS produced its own Green Budget on 11 October 2022, and identified a £60 billion a year hole in the public finances.
Commenting on the report, Paul said:
“Try as hard as we can, given plausible forecasts, we can’t see how to get public finances on a sustainable path without big, painful spending cuts or a reversal of £43bn tax cuts just announced. The chancellor has a big job to reassure the markets his mini budget spooked so badly.”
Three days later, the chancellor had been sacked. If the Prime Minister thought that might calm the markets, she was wrong. Government borrowing costs rose again as she gave her press conference, illustrating the deeper nature of the problem. Rising bond yields are a political indicator as much as an economic one. Investors don’t’ like political instability and they saw nothing to convince them that things were about to get much better. Commenting on the potential longer-term reputational damage, fund manager Toby Nangle remarked, “You can’t unburn the toast.”
While he expressed relief at the rapid about turn in policy by Jeremy Hunt, Paul Johnson still wasn’t letting the government off the hook:
“Fiscal credibility is hard won but easily lost. Today’s announcements won’t be enough, by themselves, to plug the gap in the government’s fiscal plans. Nor will they be enough to undo the damage caused by the debacle of the last few weeks.”
Writing in The Times he warned that “the markets may yet take fright on Halloween” and be “spooked by UK fiscal incontinence”.
Now, with the Prime Minister gone, nobody is quite sure what will happen over the next few weeks. Whether or not the Halloween budget happens, the aftershocks of this year’s political and economic turmoil will be felt for some time.
Nevertheless, while none of this looks good for the world, and particularly not for the UK, it will certainly make for an interesting economic update when Paul comes to speak to us in November. He will draw on his bang up-to-date knowledge together with his unique perspective from his career as an economist, at the Treasury, the Financial Services Authority and more than a decade at the helm of the IFS.
At a time when you will be at an advanced stage of planning for 2023, Paul will help us to gain a clearer appreciation of the events of this turbulent year and will give us a critical and timely perspective on how the economic environment of 2023 and beyond might develop. Through a masterstroke of planning, the timing of this event could hardly be better. Whoever is Prime Minister by then, the chance to hear from someone with Paul’s knowledge and insight at a time when such tumultuous events are taking place is surely too good an opportunity to miss. We look forward to seeing you on 9 November.
UPCOMING CRF CONFERENCE:
2023 and Beyond
Economist Paul Johnson
Wednesday 9 November, Online