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banner Friday, 10 March, 2000, 10:23 GMT
The chancellor's options

Budgets in the run up to general elections always pose special problems for chancellors. BBC economics reporter Chris Giles examines the choices this time round.

Chancellor Gordon Brown has a huge budget surplus.

This surprising development is due to a combination of luck and skill - the economy has returned to growth, while the government has managed to keep the lid on public spending.

But now that job is getting tougher.

Public sector unions want a big boost in public spending. They think the money is there.

By his own rules, the chancellor could have 18bn to give away.

Businesses want no more taxes, but the Confederation of British Industry also wants public spending to be increased, specifically on transport.

Meanwhile, the ever-vigilant International Monetary Fund has recommended a tight Budget - according to the IMF, that would be best for the long-term health of the economy and mean less need for higher interest rates.

Like all chancellors before him, Gordon Brown will try to have it both ways - talking up his tax cuts and any public spending increases, while describing the overall Budget as tough or neutral.

How big is the war chest?

Gordon Brown has a key advantage over many previous chancellors.

The public finances are in excellent shape. He might even have money to give away without taking risks with their future health.

Spending fell as a share of GDP (the size of the economy) from 1996-97 to 1998-99 as the new government imposed exceptionally tough spending limits on all departments.

At the same time the government increased taxes by an average 300 per UK household per year.

The result was that a huge budget deficit approaching 3% of GDP was turned into a surplus.

Very healthy tax revenues this year mean that the projected surplus might be even larger than the government thought as recently as November.

Constraints on spending

But the fact the government is running a surplus is not enough to give Gordon Brown scope for a give-away Budget.

(Blair's health pledge) is money the government simply has not got.

Chris Giles, BBC economics reporter
If the public finances are strong simply because the economy is booming, he cannot rely on them remaining healthy when the economy returns to normal - tax revenues would fall and public spending on social security would rise.

Gordon Brown instigated two rules of thumb to guard against this - the 'golden rule', that the government only borrows money to invest and the 'sustainable investment rule' that government debt is not more than 40% of national income.

These rules have to be met over the whole economic cycle.

The economy will have no trouble in meeting the sustainable investment rule over this economic cycle, the debt to GDP ratio is falling and will continue to fall fast.

So the binding constraint is the golden rule. The Institute for Fiscal Studies estimates the golden rule will be exceeded by 18bn next year.

It reckons he could spend the lot in tax cuts, about 7p off the basic rate of tax, and still meet the rule of thumb for sound public finances.

Prudence rules

But no one thinks Gordon will cut taxes by 18bn.

  • He has built in a safety margin in the golden rule of about 10bn which he has said he wouldn't spend - in case the economic forecasts have got it all wrong.

  • He might be ill advised to spend the remaining 8bn because he has already earmarked significant tax cuts over the next few years.

  • Any more tax cuts might result in the Bank of England putting up interest rates to stop consumers spending more than the economy can handle.

  • He will want to reserve some money to be generous in the next Comprehensive Spending Review due in July.

  • Economic predictions can be fickle, as the last government found to its cost.

Tax cuts on the cards

Although there are reasons to be cautious, it is nevertheless true that the public finances are looking better than they have for many years, and few people think the economy is heading for a fall.

Gordon Brown will probably not to be able to resist a bit of tax cutting on 21 March.

About 3bn tax cuts is likely - the amount needed to stop the tax burden rising.

Politically that makes Labour's record on tax much easier to sell. The party would be able to claim tax was now falling, even if it had risen since 1997 - which could be blamed on the Tories.

Rash promises

A rather large spanner was thrown into the public spending plans during the flu outbreak in January.

Tony Blair pledged much more health spending than previously had been envisaged. He said he wanted to see UK health spending at European levels.
Britain spends 6.8% of GDP on health. The EU average is 8%.

Accountants PricewaterhouseCoopers have calculated that spending would have to increase by nearly 9% above inflation a year. It would mean spending an extra 19.5bn every year until 2004/5.

That's money the government simply does not have.

Add in education as the top priority for the government, and what is a healthy surplus in government finances would turn into a sizeable deficit.

It adds up to another hard choice of the kind the government claims it likes to make.

Meet Tony Blair's spending plans and either raise taxes or put the public finances at risk, or fail to satisfy the public on health and education funding but go into the election with extremely healthy public finances.

Perhaps the situation facing Gordon Brown isn't so different from the past after all.

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See also:

10 Mar 00 | Budget2000
Tackling tax inequalities
10 Mar 00 | Budget2000
The economy: a rosy scenario?
11 Feb 00 | Business
TUC calls for more spending
23 Feb 00 | Business
Brown's health spending shortfall
26 Jan 00 | Business
Brown's 7bn war chest
21 Jan 00 | Business
Public sector deficit surges
09 Nov 99 | The Economy
Economic growth swells war chest
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