UK needs £20bn a year to repair finances By Norma Cohen, Economics Correspondent
Financial Times Published: January 28 2009 10:00
The UK will need to raise taxes or introduce spending cuts worth an extra £20bn annually by the end of the next parliament if it is to repair public finances to the level forecast in November?s pre-Budget report, according to the Institute for Fiscal Studies.
In its 2009 Green Budget, an annual analysis of fiscal policy, the IFS concluded that even with spending cuts and tax increases of that magnitude, public sector debt may not be able to return to pre-crisis levels for more than 20 years.
It concluded that the spending cuts and higher taxes signalled by Alistair Darling, the chancellor, in his pre-Budget report, even if they work as the Treasury envisaged, would have to remain in place until the early 2030s before debt returns below the ceiling of 40 per cent of national income that Gordon Brown set as one of his two fiscal rules in 1997.
?So there is no prospect of a government being able to readopt these rules any time soon,? the IFS said. ?We hope they will be reformed in any event.?
The IFS estimates that the Treasury?s own figures suggest that the credit crunch will cost the exchequer the equivalent of 3.5 per cent of national income ? equal to a little over £50bn in today?s money ? in lost tax revenue from individual and corporate earnings and in higher spending on social security.
In producing its document, the IFS noted that the average view among macroeconomic forecasters is that the recession will be deeper and longer than the Treasury thought at the time of the PBR. Mr Darling has also since hinted that he, too, believes the forecast will have to be revised to take account of the severe weakening in demand seen late in the fourth quarter of 2008.
But the IFS notes that although a longer, deeper recession will push government debt and borrowing further above the PBR forecasts, and it may prove unsettling for investors but may not necessarily increase the level of government borrowing and tightening of fiscal policy in the longer term.
Morgan Stanley, which is presenting the Green Budget in partnership with the IFS, notes that while sums quoted for intervention in the financial system are very large, actual taxpayer losses are most likely to be very small, and there may even be a profit. However, there are greater chances of big losses than big profits.
The Green Budget points out that currently, the impact of rising public sector net debt is limited because government is able to borrow relatively cheaply. There is considerable demand from banks and financial institutions for liquid, risk-free instruments.
However, there is a risk that investors will become frightened by the size of government debt and demand much higher yields on government bonds. If borrowing costs were to return to the average levels of the
1990s, then further tax increases or spending cuts would be needed to stop debt and interest costs rising unsustainably, the IFS said.