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Cameron’s Budget Gamble Pays Off for Now on Economy

Wednesday, 27 October 2010 08:10 AM

British Prime Minister David Cameron’s once-in-a-generation budget gamble is paying off for now as the economy’s unexpected strength eases investors’ qualms over the risk of a renewed recession.

Gross domestic product grew 0.8 percent in the third quarter, twice as fast as analysts forecast, the Office for National Statistics said yesterday. Less than two hours later, Standard & Poor’s said the prime minister’s spending cuts had safeguarded Britain’s top credit rating, which it said is no longer in danger of being downgraded.

Cameron’s government unveiled the biggest budget cuts since World War II last week, eliminating 490,000 jobs in a bid to wipe out a record budget deficit by 2015. His drive, conceived in May to head off a Greek-style fiscal crisis, pushed the yield on the U.K.’s two-year government bond to the lowest on record.

“He’s lucky at the moment, but there’s only a certain amount of luck you get, and he’s having all of his early,” said Steven Fielding, director of the Centre for British Politics at Nottingham University. “Can you really take out half a million public-sector jobs without that having an effect on the economy? There’s going to be a very hard slog over the next four years.”

The timing of the cuts by Cameron is more fortuitous than those of Margaret Thatcher. Her first chancellor of the exchequer, Geoffrey Howe, announced his austerity measures in March 1981, when the U.K. was still mired in recession. By contrast, Cameron’s economy has just posted the two strongest consecutive quarters of growth since 2000.

‘Sorting Out the Mess’

“It was this government’s changes that took the British economy out of the danger zone and since the election we’ve seen interest rates coming down in Britain,” Cameron told the House of Commons in London today. “What we’re now seeing is businesses across the world recognizing that this is a great country to invest in because we’re sorting out the mess we were left with.”

Cameron may not be able to rely on this good luck for long. His finance minister, George Osborne, is dependent on welfare cuts to balance the budget, leaving some analysts to question whether the squeeze will achieve its aims.

Osborne’s announcement last week shows spending cuts will peak at 81 billion pounds ($128 billion) in 2015. The measures include an extra 7 billion pounds of savings from the social- security bill, which the government can’t completely control.

Poorest Hit

The Institute for Fiscal Studies said that the measures may be inadequate to erase the structural deficit and further spending reductions or tax increases may be needed. The London- based research group also said that the poorest will be hit harder than the better off, with the exception of the richest 2 percent.

“This is a reckless gamble,” the opposition Labour Party’s finance spokesman, Alan Johnson, told BBC television yesterday.

U.K. retail sales dropped and claims for unemployment benefits rose in September for a second month, suggesting Britons are already feeling the squeeze. Consumer confidence sank in September to the lowest in 18 months, according to Nationwide Building Society.

“We’re more downbeat on the outlook for 2011,” said Sarah Hewin, senior economist at Standard Chartered Bank in London. “Our concern is the impact from government spending cuts will be contractionary.”

‘Strong Headwinds’

The International Monetary Fund cut its forecast for U.K. growth next year to 2 percent from 2.1 percent last month and said the Bank of England should be prepared to add stimulus to the economy in case the recovery falters. The bank’s deputy governor, Paul Tucker, said two days ago the rebound “will be bumpy and uneven” and “headwinds remain reasonably strong.”

There are also clouds on the political horizon for Cameron, including unrest among his Liberal Democrat coalition partners. The prime minister’s Conservative Party depends on the Liberal Democrats for its majority in the House of Commons.

The Liberal Democrat deputy leader, Simon Hughes, told Channel 4 television Oct. 24 that many of his colleagues oppose plans to reduce social-housing subsidies, a step that may force people on low incomes to move to areas where rents are cheaper.

“My message to the government is: I don’t think you will get parliamentary approval for your current plans,” Hughes said.

‘Out of Control’

Cameron told lawmakers today that the government would go ahead with the proposals. “This is a budget completely out of control,” he said.

A Populus poll for the London-based Times newspaper published yesterday showed Labour ahead of the Conservatives for the first time since November 2007. Labour was on 38 percent, up a point from last month, to the Conservatives’ 37 percent, a drop of two points. Populus questioned 1,000 adults for the poll from Oct. 22 to Oct. 24. It gave no margin of error.

Yesterday’s reports “probably won’t change the course of the political dialogue over the next few years,” said David Tinsley, an economist at National Australia Bank in London and a former Bank of England official. “The government is set for a period of unpopularity.”

Labor unions are protesting. The Fire Brigades Union called yesterday for a strike in London on Nov. 5 over plans to change working conditions that it says will lead to job cuts. For firefighters, it’s one of the busiest days of the year, when bonfires are lit and fireworks set off to commemorate the foiling of a plot in 1605 by Catholics to blow up Parliament.

Elsewhere in Europe

Still, Britain has so far escaped the social upheaval that’s plagued some other European nations.

In France, oil-refinery blockades and strikes against President Nicolas Sarkozy’s plan to raise the retirement age left as many as a quarter of service stations dry.

“There’s a historical tradition of people taking to the streets in France, whereas in the U.K., people do recognize there’s a problem,” said Wyn Grant, professor of politics at Warwick University.

Greek workers revolted for months after the government implemented austerity measures to prevent a debt default. Ireland has had to cancel bond auctions for the rest of the year after investor concern about the government’s banking bailout pushed up borrowing costs.

By contrast, U.K. government bonds have rallied. The yield on the two-year gilt fell to a record low of 0.557 percent on Oct. 21.

Yesterday’s report showed services, which make up 76 percent of GDP, grew 0.6 percent on the quarter. Industrial production rose 0.6 percent, driven by a 1 percent jump in manufacturing. Construction increased 11 percent on the year, the most since 1988.

“The government has to walk a tightrope,” said Simon Hayes, an economist at Barclays Capital in London and a former Bank of England official. Cameron will need to make sure he “pushes on with plans that satisfy financial markets while consumer and business confidence hold up.”

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British Prime Minister David Cameron s once-in-a-generation budget gamble is paying off for now as the economy s unexpected strength eases investors qualms over the risk of a renewed recession. Gross domestic product grew 0.8 percent in the third quarter, twice as fast as...
Wednesday, 27 October 2010 08:10 AM
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