Why the 2013 Budget won’t work

Despite having a year to think about it and speaking for more than an hour, George Osborne’s 2013 Budget will not help the UK’s economy. This is why.

George Osborne 2013 Budget

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Chancellor of the Exchequer George Osborne walks away from 11 Downing Street heading to the House of Commons to deliver his annual Budget statement. PRESS ASSOCIATION Photo. Picture date: Wednesday March 20, 2013.

There was some good news in the Budget, but a kind word and a few coppers saved in a pub isn’t enough to fix an economy, not even close.

For example, the 2013 Budget included downward revisions to growth for 2013. The Office for Budget Responsibility now expects growth to be a mere 0.6%, half its previous forecast. The GDP estimates have been whittled down so much in recent years that we wouldn’t be surprised if this figure ends up being too optimistic, especially since 2012 GDP was a mere 0.4%, and we had the Olympics.

But although the GDP forecast was dismal, Osborne’s Olympic effort at making the Budget sound more upbeat than in previous years deserves some credit. “Austerity Osborne” delivered more tax giveaways than most people expected, especially as he made such a song and dance about this Budget being “fiscally neutral”.

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Budget 2013: Graphic charts tax, spending and borrowing figures

The pleasant surprise on the tax front included an Employment Allowance. This means that employers don’t have to pay the first £2,000 of their employees’ National Insurance contributions.  Added to this we will all get an increased personal allowance to £10,000, a year earlier than expected in 2014. This isn’t game-changing stuff, but it allows a little more wiggle room and helps take some of the pressure off over-burdened small and medium sized businesses.

But with one hand he giveth, with the other he taketh away. Although businesses are off the hook for National Insurance, business rates are still going up and as some commentators have argued, the change to National Insurance actually complicates the UK tax system. A cut to business rates instead would have had a bigger economic impact and also helped to reduce red tape.

But considering expectations were so low for this Budget even small tweaks to the tax regime have received a warm welcome.

Undoubtedly, the show piece of the Budget was the news on housing. The Government will devote £3.5 billion of the budget over the next three years towards “shared equity loans” for new build homes. This means that the Government will guarantee a portion of mortgages for new build homes up to the total value of £130 billion. The idea is that this boosts mortgage lending, which then spurs demand for new homes, which in turn creates new jobs. This all looks good on paper, but will it work in reality?

From the taxpayers’ point of view, there may be some concern that the public balance sheet will be at risk from mortgage defaults. Remember Fannie Mae and Freddie Mac in the US? They were essentially de-facto mortgage guarantee schemes that went belly up in 2008 when the US housing market crashed.

In fairness, the Government has a fairly strong argument to say that it will be different in the UK. Firstly, there is a limit to the government’s exposure, £130 billion; secondly, in the UK there is a large shortfall in housing, so demand may not taper off as it did in the US.

But from the homebuyers’ point of view, there could also be limitations to this scheme. Firstly, if you live in London, particularly North and West London, there isn’t land the size of a postage stamp left to build on. Thus, one can assume this scheme will have a bigger impact in other parts of the country.

But in truth, the people who can afford to buy houses work in or near big cities, particularly in the South East. Thus, if the new buyer scheme is to have the expected economic impact, we need to see green belt regulations relaxed in the suburbs surrounding the UK’s biggest cities like London, Bermingham, Edinburgh etc.

One of the most anticipated parts of the Budget for market analyst and geeks alike, was the announcement of the change to the Bank of England’s remit. It was a damp squib.

The Bank will continue to target a 2% annual inflation rate, but it will have to write a letter to the Chancellor explaining when it thinks the inflation target will be reached. The letter will now be delivered to the Chancellor on the same day as the Bank’s minutes are released, rather than when inflation data is released.

This means that the Bank has been handed the opportunity to justify a stronger inflation rate, which in theory could mean more quantitative easing even when prices are rising. However, it doesn’t suggest that aggressive easing is around the corner, as some had expected.

In contrast to the US central bank – which targets inflation and unemployment – our central bank still has an inflation-only mandate, rather than a growth-focused mandate.

This is bad for growth on the one hand: More money printing could have helped keep interest rates lower for longer, which would have been good news for business, especially the large corporates. However, it is good news for the lucky public thinking about travelling abroad this summer.

The less aggressive new remit helped sterling to rebound. We now think that it could be in recovery mode for the next few months, after falling nearly 10% against the US dollar since the start of the year. That means the pound in your pocket could go further if you are planning a foreign holiday this Easter weekend.

Overall, this Budget is a personal triumph for the Chancellor. He managed expectations so low during the lead up to the Budget that only small tweaks here and there have had a big impact. For a Chancellor with the lowest approval ratings for two decades, he may have negotiated himself an Osborne bounce, even if the economy remains in the doldrums.

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Kathleen Brooks is author of Kathleen Brooks on Forex, published by Harriman House.
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