{"id":16266,"date":"2024-07-06T09:35:50","date_gmt":"2024-07-06T09:35:50","guid":{"rendered":"https:\/\/sceptical.scot\/staging\/?p=16266"},"modified":"2024-07-10T08:35:29","modified_gmt":"2024-07-10T08:35:29","slug":"why-labours-borrowing-to-invest-rule-is-no-game-changer","status":"publish","type":"post","link":"https:\/\/sceptical.scot\/staging\/2024\/07\/why-labours-borrowing-to-invest-rule-is-no-game-changer\/","title":{"rendered":"Why Labour\u2019s \u201cborrowing to invest\u2019 rule is no game-changer"},"content":{"rendered":"\n

On 19 March the (then Shadow) Chancellor Rachel Reeves delivered the 36th<\/sup> Mais Lecture at Bayes Business School in London. This was an opportunity for Labour to set out its stall on economic policy, and Rachel Reeves used it as a chance to outline her proposed fiscal rules. In doing so, she said:<\/strong><\/p>\n

\n

[O]ur fiscal rules differ from the government\u2019s. Their borrowing rule, which targets the overall deficit rather than the current deficit, creates a clear incentive to cut investment that will have long-run benefits for short-term gains. I reject that approach, and that is why our borrowing rule targets day-to-day spending. We will prioritise investment within a framework that would get debt falling as a share of GDP over the medium term.<\/p>\n<\/blockquote>\n

Source: Labour transcript of the Mais Lecture<\/a><\/em><\/p>\n

The borrowing rule in place that \u00a0Reeves refers to is the supplementary target, which is defined in the Charter for Budget Responsibility<\/a>, and which says that public sector net borrowing (PSNB) must be below 3% of GDP in the final year of the forecast period that the OBR projects. This is five years into the future, and so the current end is 2028-29 \u2013 but whenever the next forecast is, it will roll over to 2029-30.<\/p>\n

Labour\u2019s proposal means that will no longer use this rule and will instead make sure that it keeps the current budget in surplus in 2029-30, while maintaining the fiscal mandate \u2013 the rule that debt should be falling as a share of GDP in the final year of the forecast. This seems like it would be a clear dividing line in terms of macroeconomic policy.<\/p>\n

The current forecasts for net borrowing and budget<\/h2>\n

The current budget deficit is simply defined as net borrowing excluding net investment. So in a formal sense, Reeves is right \u2013 her proposed rule does not formally limit investment. Though neither does the current one: it is perfectly possible for the government to meet the 3% borrowing rule with more or less investment.<\/p>\n

Net borrowing is forecast by the OBR to be below 3% in every year of the forecast, and falling in every year. By 2028-29 \u2013 the year in which the rule was assessed in March \u2013 net borrowing was forecast to be 1.2%, and a full \u00a343bn lower than it would have had to be for the 3% threshold to be breached.<\/p>\n

Chart 1: PSNB forecast and comparison with the borrowing rule<\/h4>\n

\"Chart<\/picture><\/a><\/p>\n

Source: OBR, FAI analysis<\/em><\/p>\n

This \u2018headroom\u2019 appears very large in recent memory, and larger than the headroom any Chancellor left themselves since George Osborne in the 2014 Autumn Statement, and if that were the only constraint, it would mean there was significant room to increase spending on borrowing without breaching that rule.<\/p>\n

This \u2018headroom\u2019 against the 3% borrowing rule is also substantially larger than the one against Reeves\u2019 favoured rule. But note that the current budget is already forecast to be in surplus by 2028-29<\/u><\/strong> to the tune of \u00a314 billion. This means that the current Government\u2019s plans already meet Reeves\u2019 rule, and this is likely to remain the case whatever happens. It\u2019s not a particularly demanding rule to meet, mind: the UK ran a current budget surplus in 2018-19 and very small deficits in many other years of the 21st<\/sup> century.<\/p>\n

Chart 2: Current budget deficit and comparison with the Labour-proposed current budget rule<\/h4>\n

\"Chart<\/picture><\/a><\/p>\n

Source: OBR, FAI analysis<\/em><\/p>\n

In fact, on their own, meeting the two is pretty manageable. If these were the only rules, the Government could borrow an additional \u00a330bn a year<\/u> for capital spending and still meet both rules \u2013 with a historically low cushion, but not dissimilar to Jeremy Hunt\u2019s in the last few events.<\/p>\n

The difficulty is in getting debt falling<\/h2>\n

The reason why the Government is constrained much more than it would appear in the first place is that debt is barely on a falling path in the final year of the forecast. The underlying debt stock only has to rise by just under \u00a39bn for it to no longer fall \u2013 which is a minuscule difference, and also a historically very low<\/u> level of cushion against economic shocks and forecast uncertainty.<\/p>\n

As the chart below illustrates, it\u2019s the debt rule rule that bites in any of the scenarios with additional capital investment \u2013 and therefore that is the real constraint on how much additional investment comes from this rule, not the current 3% rule or a hypothetical current budget rule. Changing from the borrowing rule to the \u2018borrow-to-invest\u2019 rule does nothing to change the fiscal space available to the Government so long as it remains committed to getting debt on a falling path by the end of the forecast.<\/u><\/p>\n

Chart 3: Headroom against current and proposed fiscal rules in the OBR\u2019s central forecast and for different scenarios of additional capital spending<\/h4>\n

\"Chart<\/picture><\/a><\/p>\n

Source: OBR, FAI analysis<\/em><\/p>\n

Of course, it wouldn\u2019t be the first time we saw a government play about with the timing and profile of capital spending to ensure that it increases earlier in the forecast, making it easier for indicators to be hit at the end. And it\u2019s certainly something that we will be keeping an eye out for \u2013 not least because that\u2019s the sort of tricks that seem to work in the short run, but actually are incredibly detrimental to the stability that Reeves claims she wants to instil.<\/p>\n

Reading between the lines \u2013 could Labour be trying to wrest some fiscal room for manoeuvre?<\/h2>\n

It\u2019s worth circling back to \u00a0Reeves\u2019 statement about the fiscal rules, both in what it says and what it doesn\u2019t say.<\/p>\n

It\u2019s obvious what the current budget rule will be, which is for it to be in surplus. It\u2019s less immediately clear that the debt metric used will be PSND ex BoE \u2013 the metric chosen by Hunt.<\/p>\n

The choice of PSND ex BoE \u2013 or \u2018underlying\u2019 debt, as it\u2019s often called by the Treasury \u2013 means that it creates an artificial barrier within the public sector in the National Accounts. For a large part of the 2010s, during expansions in quantitative easing, this benefitted the Treasury \u2013 it was much easier to get \u2018underlying\u2019 debt down by excluding the effects of the Bank\u2019s policy.<\/p>\n

Chart 4: PSND and PSND ex BoE as a share of GDP<\/h4>\n

\"Chart<\/picture><\/a><\/p>\n

Source: ONS<\/em><\/p>\n

But that is no longer the case. With higher interest rate losses accumulating with quantitative tightening and the Treasury indemnifying the Bank for those losses through capital transfers, \u2018underlying\u2019 debt is now rising much faster than PSND.<\/p>\n

PSND looks through these artificial intra-public sector boundaries, ignoring whether the Bank or the Treasury holds these liabilities \u2013 both are ultimately arms of the government, and therefore what matters is whether they reside in the public or private sector.<\/p>\n

The situation regarding headroom against getting PSND falling as a share of GDP in the final year of the forecast is much healthier. As the chart below shows, an additional \u00a320bn in capital spending per year<\/u> would see the PSND\/GDP being met with roughly the same headroom that the \u2018underlying\u2019 debt rule is met currently.<\/p>\n

Chart 5: Headroom against current\/proposed fiscal rules and PSND falling in the OBR\u2019s central forecast and for different scenarios of additional capital spending<\/h4>\n

\"Chart<\/picture><\/a><\/p>\n

Source: OBR, FAI analysis<\/em><\/p>\n

Was Rachel Reeves leaving herself some room for this by not mentioned underlying debt anywhere in the Mais Lecture? Yes, it\u2019s a slightly different metric, but one that arguably is a better indicator of the state of the public finances \u2013 and a Chancellor would have no better time to institute this than at the start of a new Parliament with a change in the political weather.<\/p>\n

First published on July 2 by the Fraser of Allander Institute<\/a><\/em><\/p>\n

Featured image: Wikimedia Commons<\/a> via UK Parliament Creative Commons<\/a> Attribution 3.0 Unported<\/a><\/em><\/p>\n","protected":false},"excerpt":{"rendered":"

“Changing from the borrowing rule to the \u2018borrow-to-invest\u2019 rule does nothing to change the fiscal space available to the Government so long as it remains committed to getting debt on a falling path by the end of the forecast.”<\/p>\n","protected":false},"author":416,"featured_media":16268,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[319],"tags":[671],"class_list":["post-16266","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-economy","tag-general-election-2024"],"_links":{"self":[{"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/posts\/16266","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/users\/416"}],"replies":[{"embeddable":true,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/comments?post=16266"}],"version-history":[{"count":0,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/posts\/16266\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/media\/16268"}],"wp:attachment":[{"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/media?parent=16266"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/categories?post=16266"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/sceptical.scot\/staging\/wp-json\/wp\/v2\/tags?post=16266"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}