Friday, August 24, 2012

UK: DEFICIT CONTROL MEASURES

Why the deficit control measures given by UK Prime Minister David Cameron suspiciously point to his lack of understanding of economics

Most amusingly, the current budget released by his government shows an expected total interest outflow of £250 billion by 2015, which is much higher than even the worst estimates before budget. Is Cameron even reading what Osborne is preparing? It doesn’t stop here. UK’s public debt today stands at £903 billion – equivalent to 68.5% of GDP – and the net debt stands at 62.2% of GDP. Guess what Cameron accepts that he is going to achieve through his budget – the net debt will actually grow to 70% of GDP in 2014. Are we imagining it or has the Osborne-Cameron combine not remembered to stand up to their words of a week before? Even if we consider UK’s current national debt, which stands at 51% of GDP, it’s quite alright by international standards. Many other countries have higher national debt to GDP ratios than UK’s. For example, Japan’s national debt is close to 194% of the GDP, Italy’s is over 100%, even the US is close to 71%. The fact is that by not cutting net debt, the duo is actually doing good for UK.

Let’s jump to Cameron’s understanding of the deficit. Britain’s deficit last year was actually considerably lower than previously calculated. Deficit has actually come down from £178 billion in 2007 (5.5% of GDP), to £163 billion in 2008, and finally to £156 billion in 2009 (11.5% of GDP). What worries Cameron is the figure of 11.5%. Although this is the third largest percentage amongst EU nations, there’s less cause for concern as the deficit was mainly due to two reasons – one, the recession, and two, the bailout of UK banks, both of which are not expected to continue in the future.

But Cameron’s biggest and perhaps gravest mistake for the UK economy is his decision to curtail government spending. While in 2008 and 2009, government spending was £582.1 billion and £638 billion, Cameron has promised to cap it at £637 billion for 2010/11, conservatively increasing it to reach £711 billion in 2015/16. The problem is that the moment the rate of growth of government spending falls, it’s the biggest discouragement for GDP growth. Add to this the timing – which is right after the slowdown, when the nation requires increased spending – and we have the makings of a most dangerous GDP stagnation era.

Deficit, debt and government spending were the three things Cameron shouldn’t have worried about – especially after having done the great work on taxes. Sadly, he did just that. The rabble rousing worked – people love him.


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