Public sector finance and the Chancellor’s agenda
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Last week’s Public Sector Finances release indicated that the public finances are in much better shape than the OBR’s most recent forecasts suggested would be the case. Thus, over the first seven months of the 2013/14 fiscal year, Public Sector Net Borrowing – excluding Royal Mail & Asset Purchase Facility (APF) transfers – was £5.8bn lower than the same period a year ago. And those figures for last year also look better, with borrowing in 2012-13 now estimated to be almost £6bn lower than the OBR had forecast at the time of the Budget. While there are several one-off factors, such as the front-loading of APF receipts, revenues from the Swiss Capital Tax and some income switching to take advantage of the reduction in the top rate of income tax which flattered the figures for the early part of this year, borrowing has consistently undershot as these factors have unwound, and on the basis of current trends, it looks likely that borrowing will come in around £11bn lower than the OBR’s forecast for the year as a whole.
The strength of improvement in public finances is largely down to better than expected tax receipts, with HMRC revenues running £12.6bn ahead of last year’s total, and growth of 4.7% as against the OBR’s full-year forecast of 3.4%. Digging into the details, income tax, NICs and capital gains tax revenues for the first seven months of the fiscal year were almost £7bn higher than a year earlier, mainly reflecting the strength of the labour market, although the comparison is flattered somewhat by higher earners deferring income from 2012-13 to 2013-14 to take advantage of the reduction in the top rate of income tax from 50% to 45%. Also VAT receipts have risen 5%, reflecting the rebound in consumer spending, whilst revenues from stamp duty have risen more than 30% on the back of the resurgent housing market. Each of these factors looks set to remain supportive and continue the strong performance of tax revenues over the latter part of 2013-14.
Against this backcloth, we can expect the OBR to make substantial changes to its economic and fiscal forecasts when these are published with the Autumn Statement on 5th December and we can expect higher forecasts for next year as well as this, given the recovery’s momentum. To put numbers to this, the OBR presently projects GDP growth of 0.6% for 2013 and 1.8% for 2014 and we could see revisions to perhaps 1.4% and 2.5% respectively. Such better numbers should also translate into improved forecasts for public finances, with the OBR perhaps expecting borrowing to average £10bn a year less than before across the forecast period. The snag for the government is that the OBR would likely judge that the bulk of the improvement in public finances is cyclical with therefore little or no change to the scale of the fiscal challenge that the cyclically-adjusted current budget must be forecast to return to balance within five years. The get-out-of-jail would be if the OBR also upgraded its forecast for potential output growth but given that investment’s remained weak and the recent jobs data have raised questions over the level of slack in the economy, this looks unlikely.
On this basis, improved forecasts for public finances shouldn’t lead to any substantial shift in policy, but gilt issuance would be affected. In the Budget, the Treasury expected a Net Financing Requirement (NFR) of £162.9bn, of which £113.9bn was the central government net cash requirement (CGNCR). With higher tax receipts, the CGNCR could be c£103bn, and the NFR c£152bn.
At the September Conservative party conference, the Chancellor announced his aim to run budget surpluses in the next parliament, so there’s no room for big giveaways but we could see some new small-scale spending initiatives and tax cuts to deliver on promises made and to try to neutralize Labour’s attempts to shift the political debate towards who benefits from recovery. The promises add up to £1.5bn-£2bn, including the LibDem’s commitment to free school meals to children aged under eight, the Tory plan to give married couples a £1,000 transferable tax allowance from 2015, and the freeze on fuel duty until 2015.
We could also see measures to constrain household energy bills. As much publicised, since 2000, the combined price paid by consumers for electricity and gas has risen by 160% with domestic energy bills now accounting for 4.6% of household spending, compared with 3.1% in 2000. As an easy measure, the government may decide to remove some green levies from bills and instead fund the costs out of general taxation. The government may also seek another above-indexation increase in the income tax personal allowance but this type of change can be expensive so the Chancellor may hold fire for now
Whilst the focus is often on tax cuts, the Chancellor may also bring in new measures to build revenue, with a possible focus on the over-heated London property market. Last year’s stamp duty hike has not restrained foreign investment and Savills estimate that more than £7bn of international cash was spent on prime London homes last year. This was a record high, and nearly three-quarters of new-build homes in central London were purchased by non-UK buyers. In terms of what policy action there might be, the Chancellor could impose capital gains tax (CGT) on foreign owners of British property and this would likely be popular with voters too. Mr Osborne could also further increase the rate of stamp duty charged on the sale of expensive properties, after last year’s increase in the stamp duty rate for homes worth more than £2mn to 7% and the closing of loopholes whereby buyers had been able to avoid stamp duty by purchasing through corporate vehicles.
James Bevan is chief investment officer of CCLA, specialist fund manager for charities and the public sector. CCLA launched The Public Sector Deposit Fund in 2011 to meet the needs of local authorities and other public sector organisations. You can follow James on twitter @jamesbevan_ccla
