Rollercoasters and rules

Chris Giles says today that “there is a gap [between Labour and Conservatives plans] of more than £30bn a year in public spending by the end of the decade, at least 1.4 per cent of national income. This is a bigger political divide seen in any election since the days of Margaret Thatcher.” Chris is absolutely right to focus on this fact, and it is really important that other journalists (including those on the political side) do the same. The reason is that neither Labour nor the Conservatives want to admit this. Labour wants to appear as if they are being ‘tough on the deficit’ and the Conservatives want to turn this into a ‘Labour would put up taxes’ election. With all the noise that these phoney debates throw up, it is important that someone tells people what the consequences of their vote will be.

Chris may also be right that the rollercoaster for public spending set out in the Budget (sharp cuts followed by increases) will not happen. However I think it would be wrong to expect a smooth ride under the Conservatives either. They will have won an election based on an initial two years of substantial spending cuts (particularly to public investment), followed by later years when the overall pace of fiscal consolidation slowed substantially (in part because of Budget tax cuts). If that wins them this election, they will want to repeat that pattern. [1]

The term rollercoaster was coined by Robert Chote, head of the Office for Budget Responsibility. But if the rollercoaster will never happen, was Robert wrong to use this word? Absolutely not - in using that term he was doing his job in a very effective way.

As Chris explains, the reason why the numbers given to the OBR generate a rollercoaster profile is the revised fiscal rule, which says that there should be (cyclically adjusted) balance within three years. Like the old rule, this is a rolling target (but now for three years ahead rather than five), so it means in effect that governments can keep putting off the date balance is achieved as each year rolls past.

If governments start planning their fiscal actions with this in mind, the rule becomes largely worthless: it means reducing deficits mañana. As I explained here, rolling targets are a good idea because they allow policy to be flexible in the face of shocks. But rolling targets can also be abused by an irresponsible government to forever put off deficit reduction.

As I argued here, there was no good reason for Osborne to switch from a five to three year rolling target, and good reasons to stick to five years. The move to three years looked like a political ploy to embarrass the opposition. When politicians start messing around with fiscal rules for political ends, and these rules then produce silly results which politicians have no intention of sticking to, it is important that an independent institution with the words ‘budget responsibility’ in their title calls attention to what is going on. Robert Chote did that very effectively by using the term rollercoaster. 

[1] Where I think Chris is wrong is in describing plans to decrease debt slowly as risky. The opposite is the case. With interest rates near their floor, sharp austerity puts the economy at risk from adverse macroeconomic shocks.