Britain brings back austerity.  Here's why |  CNN Business

Britain brings back austerity. Here’s why | CNN Business

CNN Business

The last time a UK finance minister revealed tax and spending plans, the markets went haywire and the country’s prime minister eventually lost her job. The new government is not looking for repeat performance.

On Thursday, Chancellor Jeremy Hunt is due to unveil a budget that will aim to restore confidence in the UK’s ability to manage its public finances. But that may be easier said than done.

The country is in the grip of a grueling recession and investors remain nervous about rising interest rates. It requires Hunt, who has acknowledged Britain faces “extremely difficult” decisions, to pull off a delicate balancing act.

Media reports say the government is seeking to find between £50bn ($59bn) and £60bn ($70bn) through a combination of tax increases and spending cuts, including many may not take effect until after the next election. in 2024.

“If you do too much, too soon, you risk making the recession worse,” said Ben Zaranko, senior research economist at the Institute for Fiscal Studies. “If you delay everything after the next election, you risk not being seen as credible.”

A new wave of austerity could help restore the government’s reputation with financial markets after former Prime Minister Liz Truss’ budget – which included an unorthodox combination of major tax cuts and increased borrowing – failed. triggered the panic.

But that will do little to allay fears about the country’s bleak economic outlook. The UK is one of two G7 economies to have contracted in the third trimester. It is now smaller than it was before the coronavirus pandemic. The Bank of England predicts a long recession, which could last until 2024.

Further cuts could make matters worse. When the government passed an austerity program in 2010 in the wake of the Great Recession, it slashed the country’s GDP by 1%, according to Britain’s fiscal watchdog. Just four years ago, former Prime Minister Theresa May pledged to end nearly a decade of austerity.

Now, tax hikes could further depress consumer confidence – already near a record low – and spending cuts are likely to put more pressure on public services that are already caving under enormous strain.

Still, Hunt intends to show he has a plan to reduce public debt as a proportion of GDP over the medium term. It currently stands at 98%. The Office for Budget Responsibility said in July it could reach almost 320% in 50 years.

“We have to do tax increases, do spending cuts, if we want to show that we are a country that pays our way,” Hunt told Sky News on Sunday.

How did the UK get here? It does not fail to point fingers.

Part of the problem is global in nature. Interest rates have risen rapidly around the world as central banks try to contain inflation. This has pushed up borrowing costs for the government, causing a shock after years of cheap money.

At the same time, soaring energy costs, exacerbated by Russia’s war in Ukraine, have forced governments to step in to cushion the blow of crippling energy bills – soon after spending large sums to help households and businesses through the pandemic.

Hunt has dropped plans to cap typical household energy bills at £2,500 ($2,981) for the next two years. Instead, support will only be guaranteed until next spring. But the measures will still prove costly.

However, the government cannot blame all its problems on the rest of the world.

“You can just look at how the UK is doing compared to all the other countries in Europe, and obviously there’s a UK-specific element to that,” Zaranko said.

The UK’s exit from the European Union has weighed on trade and exacerbated labor shortages in key industries. It has also contributed to a devaluation of the pound – down around 20% against the US dollar since the Brexit vote in 2016 – which has helped fuel inflation by pushing up the price of imports.

“The UK economy as a whole has been lastingly damaged by Brexit,” former Bank of England official Michael Saunders told Bloomberg TV this week. “If we hadn’t had Brexit, we probably wouldn’t have been talking about an austerity budget this week. The need for tax increases, spending cuts would not be there.

And while US inflation slowed more than expected in October, falling to 7.7%, it continues to rise sharply in the UK, hitting a 41-year high of 11.1% last month. .

This reinforces expectations that the Bank of England will have to keep raising interest rates and could keep them higher for longer, although the recession may complicate these forecasts.

The country’s labor market also remains extremely tight, with an employment rate lower than before the coronavirus and a record number of people out of work due to long-term illness.

“The UK stands out in that the supply of labor has been very tight, perhaps more so than in other countries,” said Ruth Gregory, senior UK economist at Capital Economics.

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