The IMF says plan B should involve the Bank of England cutting interest rates from their already record-low level of 0.5% and chucking some more newly minted money at the economy through the process known as quantitative easing. Only if that fails to do the trick does the Fund think the chancellor should resort to fiscal policy – decisions affecting tax and spending – to boost demand. As far as the Fund is concerned, deliberately increasing borrowing in an attempt to stimulate demand is plan C not plan B.

The IMF is advocating a monetary stimulus first, followed by (if that doesn’t do the trick) a fiscal stimulus.  And their preferred form of fiscal stimulus would be an increase in investment funded by cuts/tax rises elsewhere. In other words, the balanced budget multiplier championed in the States by Robert Shiller and in the UK by the SMF’s Ian Mulheirn.

All very interesting, but I was somewhat surprised that the IMF argued for monetary stimulus first over a fiscal stimulus.

I’d argue that a monetary stimulus can certainly be helpful but at a time when the banks aren’t lending and the monetary transmission mechanism is broken there is always the worry that it fails to address the challenges in the real economy whilst boosting activity and profits in the financial sector (Aditya Chakrabortty’s column in today’s G2 is very good on this phenomenon).

But at least the IMF has implicitly, by recommending one over the other, recognised that monetary and fiscal stimulus are not the same thing (even if I disagree with them on which is more useful in the short term). This recognition is sadly lacking from much of the current government’s rhetoric.

David Cameron for example, speaking in Davos earlier this year argued that:

while we may be fiscal conservatives, we are monetary radicals injecting cash into the banking system and introducing credit easing measures to make it easier for small businesses to access finance.

George Osborne is equally fond of arguing that his tight fiscal policy allows the Bank of England room for monetary stimulus. The government seem, again implicitly, to argue that monetary and fiscal stimulus are close substitutes for each other. It doesn’t matter if the government is cutting back as the Bank can extend support.

I’m afraid I don’t really agree with this. Leaving aside my doubts on the effectiveness of a conventional (and QE is the ‘new’ conventional) monetary stimulus at a time when the financial system’s operations are impaired, fiscal and monetary stimulus impact upon the economy in different ways.

As Philippe Aghion (a Harvard professor and advisor to President Hollande) has recently argued the two are not really substitutes, drawing on work he has carried out for both the OECD and the Bank of International Settlements . He notes that:   

Countercyclical fiscal policy enhances growth more in sectors that are more dependent on external finance or in sectors with lower asset tangibility

…

Countercyclical monetary policy enhances growth more in industries that are more dependent on finance and in industries that are more dependent on liquidity

In other words, even in ‘normal’ times fiscal and monetary policy will impact upon different sectors in a different way.

Yes, any active policy to increase demand is to be welcomed at the moment – but we shouldn’t pretend that monetary easing will automatically offset fiscal tightening.

(And this is before we start talking about different types of fiscal stimulus such as investment, VAT cuts, etc, etc)

As previously noted, the TUC has started tracking the different rates of inflation faced by the poorest 10% of households and the richest 10%. (The post linked to explains the methodology).

As can be seen in the chart below, the poorest 10% have faced higher inflation than the richest since August 2011. This is because they spend a greater proportion of their income on essentials such as food and utility bills, items where prices have been rising faster.

As headline CPI has now fallen back to 3.0%, the Bank of England is once again meeting its target of keeping inflation within 1% of 2.0%. This means there is no need for letter from the Governor to the Chancellor explaining what has gone wrong and what steps will be taken to address this.

But as our analysis shows, the inflation rate for the poorest 10% is still running at  3.7%. Maybe Sir Mervyn should write them a letter to tell them what he plans to do about this?

A variety of factors both domestic (such as the hike in VAT) and global (a rising oil price following the Arab Spring) pushed inflation higher in 2011, but as different households spend a  differing proportion of their income on different items, the impact of rising prices has been far from uniform.

This means that as the poorest 10% of households spent a much greater proportion of their income on items such as food and utility bills which were bigger drivers of inflation in 2011, they experienced  inflation rates well above the published headline level.

As the graph above makes clear, since June 2011 the poorest decile of earners have been the hardest hit. By contrast in 2010 it was the higher earners who were most affected by rising prices.

Whereas the poorest 10% of households spent 43% of their income on household utility bills and food, the richest 10% spent just 20%.

It was been widely reported that the UK is going through a squeeze on living standards of historical proportions – the worst since the 1920s according to Sir Mervyn King – but what is less appreciated is how this has affected different family types.

Real wages have been falling for two years and are not expected by the OBR to start growing again until mid 2013. The fact that prices are rising faster than earnings has cost the median worker an annual £727 in real terms since January 2010 – 3.4% of their wages. And that’s before we take account of things such as changes to tax credits.

The Chancellor might like to say ‘we’re all in this together’ but the data is saying something quite different.

We’ll be updating these series throughout the year as the data becomes available.

Methodology: the inflation series were worked by using the Family Resources Survey to see how households spend their income and then comparing the ten expenditure categories to the published breakdowns of CPI. All of the data is available here.

Most of the papers from Beyond Austerity are available here and are well worth a look.

I can’t really do justice to two days of discussions in one blog post (and another post specifically on banking and financial regulation will follow next week) but I thought it might be interesting to try and summarise the key points of what a European growth agenda might look like.

The general view (no longer at all controversial) was that austerity has failed in Europe – austerity kills growth, throws people out of work, drains confidence from the private sector, retards investment and often leads to higher not lower deficits. The social costs are often tragic and the political impact can be extremely severe.

There was widespread recognition that the main driver of the Eurozone crisis had been a balance of payments problem rather than a problem of excessive public spending/deficits. Indeed one participant remarked that it was tragedy that Greece had been the first country to run into serious problems – had it instead been Spain or Ireland (where public finances were in excellent health before 2008) then the causes of the crisis would have been much clearer. The narrative of ‘profligate periphery’ countries would have been harder to form and austerity would not have been the default cure.

The plight of the periphery countries (and in particular Spain, Portugal and Greece) was widely recognised. Austerity is killing their economies but they have little room for a fiscal expansion given the bond market’s concerns.

Given this situation the immediate short term steps required are:

Fiscal expansion where there is room: In a Eurozone context the key country here is obviously Germany. But Eurozone countries faced with low bond yields, external surpluses and relatively low debt/GDP ratios should be launching targeted, timely and temporary fiscal expansions aimed at boosting domestic demand. This would have important spill over effects into the Eurozone periphery boosting their exports.

Wage growth where there is room: Given the inability of countries to externally devalue by allowing their currency to depreciate then the burden of restoring competiveness falls on ‘internal devaluation’. Stripping away the econo-speak this means cutting real wages in the periphery. Leaving aside the social consequences the economic impact is also very damaging. The burden should instead be shared more symmetrically – rather than just hoping for falling real wages in deficit countries, Europe should be arguing for rising real wages in surplus countries – both to help expand domestic demand there and to provide a boost to the competiveness of deficit countries.

Balanced budget expansions everywhere. Even in countries without the fiscal space for a debt financed expansion, fiscal policy is not useless. Countries should launch taxation funded increases in public investment. If these taxes are levied on the better off with lower marginal propensities to consume then the multiplier of this expansion could be reasonably high.

ECB action. The ECB should act decisively in the short term to end soaring yields in periphery countries by intervening in the bond markets and placing a ‘yield ceiling’ on periphery debts. A credible commitment to act from the ECB could end the problem of soaring yields in hours. This isn’t a long term solution to the underlying balance of payments issues but is an important step in stopping contagion.

Expansion of the European Investment Bank.  The EIB should have its capital at least doubled (relatively cheap in the context of the current ‘bailouts’ of Greece, Portugal, Ireland, etc). This would allow around an additional €60bn annually of new lending. This should be concentrated in infrastructure investments and export industries in the periphery aimed at raising their competiveness  and supporting their balance of payments.

Eurobonds. In the medium term Eurobonds of some sort (pooling of Sovereign debt so that all members stand behind each other’s liabilities) are probably required but in the short run there maybe problems with implementation.  As a first step the EC should issue its own bonds (backed by all EU or Eurozone member states collectively) and use the proceeds to fund major investment and infrastructure problems. This would also have the effect of providing a new source of ‘safe’ assets to the markets.

Taken together this package has the real potential to stop the rot in Europe and allow people to start to look towards a recovery.

Some commentators are loath to blame the government’s austerity programme for the stagnation of the economy over the past 15 months. Instead they point to factors such as the Eurozone crisis and an external inflation shock that depressed household incomes. Now of course the Eurozone crisis will have impact on UK exports – but there was little evidence of this in 2011 where net trade actually added to growth whilst the domestic economy contracted. Equally the inflation shock has certainly had an impact, but it seems clear to me that the government’s fiscal policies have also been a drag on growth.

Adam Posen recently argued that:

Fiscal policy, however, played an important role as well. Cumulatively, the UK government tightened fiscal policy by 3% more than the US government did – taking local governments and automatic stabilizers into account – and this had a material impact on consumption. This was particularly the case because a large chunk of the fiscal consolidation in 2010 and in 2011 took the form of a VAT increase, which has a high multiplier for households.

Some people seem to doubt this. They argue that UK government spending continued to rise in absolute terms in 2010 and 2011 and point that that there have been large cuts in state level spending across the United States. In effect they argue that UK and US policy was similar.

This is to miss the point. As Posen argued the UK tightened by 3% of GDP more than the US did. Fiscal policy is about more than just government spending and what has been key in 2010 and 2011 is tax policy. Austerity in the UK in this period mainly took the form of a rise in VAT, whilst in the US the ‘second stimulus’ pursed by Obama took the form of a cut in pay-roll taxes that boosted demand and put money back in workers pockets.

The results are seen not so much in the contribution of government spending to GDP growth but in consumption.

The chart below presents an interesting picture – a rebound in the US and a collapse in the UK.

It is certainly true that next year US fiscal policy is due to tighten sharply (although obviously this might be changed).  But in 2010 and 2011 there is no doubt that the UK and US were pursuing very different policies – one tightening fiscal policy and one stimulating the economy. The results are pretty clear.

2011 is widely accepted as a bad year for the UK economy – it was characterised by low growth overall, falling domestic demand, a squeeze on living standards and rising unemployment.

But in many ways it was actually even worse than is widely acknowledge – GDP per capita (i.e. growth once we account for population change) actually fell.

The chart below shows the level of GDP per capita over the past decade and how it looks set to pan out (using the ONS population growth forecast of 0.8% per year and the OBR’s most recent GDP forecasts):

A few points leap out:

• GDP Per capita fell in 2008 and 2009 before recovery a bit in 2010 and then contracting again in 2011.
• GDP per capita is forecast to be flat in 2012. The OBR’s growth forecast of 0.8% is equal to expected population growth.
• GDP per capita will not reach 2007 levels until 2016 on the current forecasts.

To me, that last point really is crucial – in terms of national income per head we are already in a lot decade.

All of this helps but the weakness of the UK’s ‘recovery’ into perspective and raises interesting questions about what pace of growth should be regarded as a ‘success’.

GDP per capita grew at an annual average rate of 2.8% from 1993 to 2007 (i.e. between the 1990s recession and the Great Recession). To be on track to match that we’d need a quarterly figure around 0.7% tomorrow, a pace of growth the economy which would then have to match for the rest of the year.

If the economy could match the pre-recession rate of growth of GDP per capita, the impact would be dramatic.

As the chart makes clear, if the economy could experience ‘normal’ rates of growth rather the low ones forecast by the OBR then income per head would regain 2007 levels in 2014 – two year ahead of what we currently expect.  By 2016, income per head would be £1,607 higher than what the OBR currently forecasts.

Sadly achieving this growth at the moment seems unlikely, but the government shouldn’t be allowed to celebrate any weak growth we do get as a sign of ‘success’.

Mr Deputy Speaker, our commitment to reduce the deficit is keeping interest rates low.

In this Budget, we take measures to ensure that the benefits of those low market interest rates are felt across our economy.

And his Autumn Statement:

Those who would put all that at risk by deliberately adding to our deficit must explain this.       

 Just a one per cent rise in our market interest rates would add £10 billion to mortgage bills every year.       

 One per cent would mean the average family with a mortgage would have to pay £1,000 more.       

The BBC today:

Mortgage rates for new borrowers are continuing to rise.

At least 10 lenders, including some of the UK’s biggest, have announced rate rises in the past week for people taking out new deals.

Also, Bank of England figures show that the average two-year fixed rate deal,  with a 25% deposit, has risen from 2.9% last September to 3.45% in March.

I thought keeping interest rates down as the central aim of Treasury policy?

I don’t see how this can work. The lessons of Greece and Portugal are pretty clear – stringent austerity (not cushioned by falling central bank policy rates or a depreciating currency – both of which are ruled out by the Euro) will simply depress GDP, drive up unemployment and drive down tax revenues. Deficits are likely to get larger rather than smaller.

The ‘optimistic’ deficit hawks hope that, eventually, the periphery countries will regain competiveness but this process could take years (if it happens at all). Meanwhile domestic political systems are pushed to breaking point by government’s clinging to a ‘there is no alternative’ mantra.

You might expect me to say that – but what is really striking is that this view is becoming wide spread.

Wolfgang Manchu in the FT on fund managers:

News coverage seems to suggest that the markets are panicking about the deficits themselves. I think this is wrong. The investors I know are worried that austerity may destroy the Spanish economy, and that it will drive Spain either out of the euro or into the arms of the European Stability Mechanism.

The IMF:

Meanwhile, the International Monetary Fund (IMF) appeared to cast doubt on the viability of the eurozone’s austerity drive, a strategy Germany has pushed for as key to fighting the crisis.

An internal IMF staff report quoted Abebe Selassie, the fund’s mission chief, warning that a eurozone recession could have a big impact on Portugal’s recovery effort.

“In that case, we think that chasing after fixed nominal deficit targets may not be the best policy,” said Mr Selassie, according to reports on Thursday night.

Many policy makers, commentators and investors themselves are making the same case. The only people who seem to really believe that austerity is the solution to Southern Europe’s ills (which lets remind ourselves in most cases originate from a balance of payments problems rather than a public spending issues) nowadays appear to be an odd coalition of ECB and EC officials, the Bundesbank and the credit ratings agencies (on whom this post from Jonathan Portes is well worth a read).

But I’m starting to doubt that even they really believe austerity can work. I suspect that their foisting of austerity on the periphery is more a question of some misguided view of ‘moral hazard’ than anything else.

Self-defeating austerity is becoming the default even as people cease to believe can it work. It’s the Eurozone’s new orthodoxy, in a way the gold standard was in the inter-war years, what Keynes referred to as a ‘barbarous relic’.

I’m very much struck by the reported comments of Sidney Webb, a minister in the 1929-1931 Labour government,  after the National Government took the UK off gold in 1931 – ‘No one ever told us we could that’.

In terms of attitudes towards fiscal policy, we seem to be back in the same place. We are told there is no alternative, in hindsight

Today’s FT reports some relatively good news, David Cameron has arranged for a state-backed lender to step into the breach and help finance infrastructure projects, including wind farms, in the UK to the tune of ‘billions of pounds’.

The state-backed lender is the Japanese Bank for International Cooperation.

Given that the UK’s own Green Investment Bank is currently limited to £3bn it is perfectly possible that the UK’s green industries will recieve more funding form the Japanese state than the British one. This strikes me as an odd development.

The IPPR’s Nick Pearce recently urged the government to learn lessons from Japan. Amongst those lessons was:

Similarly, just as Japan profited from public development and export banks in  the postwar period, Britain would benefit from a national investment bank today,  capitalising on historically low interest rates to fund investment in key  sectors 

Perhaps, following some financing from a Japanese public development bank, the Government might actually start to see the potential upside of a UK State Investment Bank?  

I fully expect another bout of this today following a stronger than expected Services PMI, despite the fact that the release itself notes that:

However, this is no run-away recovery. Although on the rise, job creation and inflows of new business continue to run well below rates generally seen in the years prior to the financial crisis.

My colleague Matt has just reminded me of a quote from Paul Krugman’s ‘The Return of Depression Economics’ which really sums up where we now are in the UK economic debate:

The slowness with which Japan’s economy deteriorated was in itself a source of much confusion. Because the depression crept up on the country, there was never a moment at which the public clamoured for the government to do something dramatic. Because Japan’s economic engine gradually lost power rather than coming to a screeching halt, the government itself consistently defined success down, regarding the economy’s continuing growth as a vindication of its policies even though that growth was well short of what could and should have been achieved. And at the same time, both Japanese and foreign analysts tended to assume that because the economy grew so slowly for so long, it couldn’t grow any faster.

So Japan’s economic policies were marked by an odd combination of smugness and fatalism – and by a noticeable unwillingness to think hard about how things could have gone so wrong.  (My emphasis)

I wish I’d put it so well.

Their survey found that:

While the results are more encouraging than the previous quarter, they show that growth is still too weak, with the balances still below those seen in 2007 before the recession. Many manufacturing balances are now at a satisfactory level, but the service sector balances are sluggish.

Balances measuring domestic and export activity across firms showed welcome increases, and more businesses are looking to invest in employing more staff, training, and plant and machinery. However, cashflow is still a real problem, and despite concerns about inflation decreasing, recent increases in oil and food prices may alter this over the next few months.

As a result they are estimating that growth in 2012 as a whole will be just 0.6%.  Let’s be clear – that is a disastrous forecast, growth even weaker than in 2011.

But a quick glance at the headlines tells a different story.

Instead of looking at the whole year figures, most of the coverage so far has focussed on their prediction of 0.3% growth in Q1 – i.e. the UK avoiding a ‘double dip recession’. The BBC points out the signs of improvement, ‘Businesses up beat on economic prospects’ says the FT  whilst ‘Dip Dip Hurray as recessions fears eased’ says the Sun.  

This time last year the OBR expected growth in 2012 to be 2.5%, which in itself was down from 2.8% at the time of Osborne’s first budget.

We find ourselves in a ludicrous situation whereby the success or failure of the government’s economic policy is being measured, by many, almost entirely in terms of whether we have two back-to-back quarters of negative growth or not.

The BCC releases a quite gloomy forecast and many are prepared to call it ‘good news’.  

I’ve pointed out before that even if the economy grew by 1.5% in 2012 – twice as much as the OBR have predicted – this would still be a bad result. But expectations are so diminished that the Government might get away with hailing this as a success.

Paul Krugman, borrowing a term from President Bush, has called this (in a slightly different context) the ‘Soft Bigotry of Low Employment Expectations’. I now seriously worry that the UK is suffering from an acute case of the soft bigotry of low growth expectations.

Last week in the FT Chris Giles wrote that the ‘UK could face more than seven lean years’. He notes that:

In 2011 the economy expanded by only 0.6 per cent, excluding the effects of North Sea oil, while the OBR’s estimate of spare capacity in the economy shrank by 0.7 per cent. Without saying so, it has judged that Britain’s potential output fell in 2011.

He continues to argue that this supply side problem may be deeply rooted and persistent well beyond 2013/14 in which case ‘Britain’s glory days are not about to return’.

I disagree on the causes of weak growth in 2011, I think the OBR has not adequately taken into account the impact of austerity (something show by Adam Posen last week*) and  I worry
that the UK is misdiagnosing a serious demand problem as a productivity problem.

But on some level this actually makes me angry. Angry that many people seem to have accepted very low growth as either somehow ‘inevitable’ or, even worse, as somehow a ‘good result’. Low growth is not inevitable nor is an achievement.

*The key point in the UK versus US recoveries in 2010 & 2011 is sometimes obscured by an excessive focus on government spending and people arguing the US also had lots of austerity in 2011. The UK fiscal consolidation in 2011 was mainly through a VAT hike & a NICS increase on employees – i.e. it reduced household income and showed up in GDP as weaker consumption. The US stimulus of 2011 was focussed on a payroll tax cut that also showed up in consumption rather than government spending on a GDP basis.  You can’t measure the stance of fiscal policy by simply looking at government spending numbers.

However rather than focusing on just the recent changes it is worth taking a step back and looking at how these numbers have changed over a longer time period. The table below shows the OBR business investment forecasts over the past 20 months.

As can be seen, back in June 2010 the OBR expected business investment to grow by a very healthy 8.1% in 2011. By November of that year they had become even more bullish about the prospects for 2011 with growth revised up to 8.6%. Fast forward four months and the doubts begin to emerge, business investment growth for 2011 were downgraded to 6.7% in March 2011. By November the OBR actually expected it to fall and last week they nudged the 2011 forecast up a touch to 0.2%.

For what it’s worth we got the figures for 2011 yesterday:  

Business investment for the fourth quarter of 2011 was estimated to be 3.3 per cent lower than the previous quarter at £29.7 billion, but 1.6 per cent higher than the same period last year.

Growth of 1.6% over 2011 – a healthy beat of the OBR’s most recent forecast of just 0.2% but well below what they expected this time last year, let alone the year before. Which goes to show – it is entirely possible that macroeconomic data can beat the OBR’s most recent forecasts but this doesn’t prove that it was good data.

What is striking, to me at least, about the OBR’s investment forecasts is the way that they keep revising down the near term but continue to expect a boom in business investment is just around the corner. The graph below captures this:

The business investment boom was due to start in 2011, it was pushed back first to 2012 and then into 2013/14 but it remains in the forecasts.

Let’s hope they’re right.

Some of these charts are rather striking – the UK recovery has been an awful lot weaker:

And this has manifested itself in both investment:

And in consumption:

What explains this widely different economic performances?

Equally critical to investment and to stockbuilding as sources of the US relative growth advantage, however, was the underlying growth that drove them. Consumption grew more strongly in the US than in the UK, with consumption growth stagnating in the UK from Spring 2010 onwards. Deleveraging by households was not a major factor, given the comparable state of US and UK balance sheets. The contrasting directions of employment trends raised uncertainty in the UK over the US during the latter half of the recovery, which weighed on consumption. Fiscal policy, however, played an important role as well. Cumulatively, the UK government tightened fiscal policy by 3% more than the US government did – taking local governments and automatic stabilizers into account – and this had a material impact on consumption. This was particularly the case because a large chunk of the fiscal consolidation in 2010 and in 2011 took the form of a VAT increase, which has a high multiplier for households. The fact that British real incomes were hit harder than American households’ incomes by energy price increases could be ascribed in large part to the past depreciation of Sterling, which also hit real incomes directly. All combined, these factors significantly dampened consumption growth  in the UK, with knock on effects on investment and stockbuilding. (My emphasis)

In other words the UK government’s aggressive austerity programme is a major factor explaining weak growth since the Spring of 2010.

George Osborne told Parliament that:

We’ve already cut the rate from 28% to 26%.

This April it is due to fall again to 25%.

I can announce today a further cut of one percent – to be implemented right away.

From next month, Britain will have a corporation tax rate of just 24%.

And we will continue with the two further cuts planned next year and the year after.

So that by 2014, Britain will have a 22% rate of corporation tax.

The biggest sustained reduction in business tax rates for a generation.

A headline rate that is not just lower than our competitors, but dramatically lower.

18% lower than the US.

16% lower than Japan.

12% below France and 8% below Germany.

An advertisement for investment and jobs in Britain.

And a rate that puts our country within sight of a 20% rate of business tax that would align basic rate income tax, the small companies rate and the corporation tax rate.

Boosting about how low our corporation tax is might please certain sections of business but what will it actually do for ‘investment and jobs in Britain’? The answer, according to the OBR, is ‘not a lot’. If they thought otherwise they wouldn’t have made sharp downward revisions to their investment forecasts.

But don’t just take their word for it. Today’s Lex column in the FT notes that headline rates don’t actually tell us a great deal.  As they note ‘the UK offers fewer allowances for companies than other G20 countries on investment in fixed assets such as plant and machinery’.

A point picked up by the paper’s Martin Wolf who argues today that the cut in corporation tax was of ‘dubious’ benefit and instead:

A far more sensible proposal would be to increase investment incentives and maintain – or even raise – headline rates. The broad aim would be to make the system neutral between  retentions and distributions while encouraging investment, which is extraordinarily low.

As the TUC made clear in its most recent Economic Report the appalling low level of business investment is a major (and long term) challenge to the UK economy. Corporations are sitting on a cash pile of over £700bn which they are reluctant to investment whilst the economic outlook is uncertain, a point echoed last week by the Economist.

A cut to corporation tax is highly unlikely to make them investment – instead it will simply increase profits (which are already relatively high) and add to the cash sitting idle on balance sheets. Targeted increases in investment and capital allowances would be a much more effective stimulus to growth.

The sad fact is that the Treasury, at least on some level, accepts this. Capital allowances were increased in the Enterprise Zones in Scotland, London, Wales and Yorkshire & the Humber yesterday. But only £5-20mn a year was allocated to this, in contrast to the circa £700-920mn spent on cutting the headline rate.

A government serious about increasing business investment would make raising capital allowances a far higher priority than cutting corporation tax, even if it generated fewer easy headlines.

The Government is very keen on talking up exports and investment but by the OBR’s estimates the UK’s recovery will actually be dependent upon the consumer.

The chart below shows the OBR’s growth forecasts for 2012 to 2016 split into two categories only: private consumption & everything else.

As can be seen private consumption will is expected to be a crucial driver of Britain’s growth in the years ahead.

What is perhaps more interesting, is to compare the chart above to the one below – which shows the same data but uses the OBR’s previous forecasts, taken from the Autumn Statement in November.

Not only is consumption a major factor in the OBR’s growth forecasts but its importance is increasing. Back in November the OBR expected 12.5% of all growth in 2012 to come from private consumption, they have now revised that up to 37.5%.

Indeed over the next 5 years to 2016 , the OBR now expect over half of all growth to come from private consumption. In 4 of the next 5 years the OBR thinks that consumption will add more to GDP than net trade, whilst consumption is a more important driver of growth than business investment in every year of the forecast.

For all the government’s talk of export and/or business investment-led recoveries, the forecasts now suggest they are banking on a return to consumer-led growth.  

However it made far larger changes to the composition of that growth. Throughout 2009, 2010 and 2011 George Osborne has been keen to talk of an ‘investment and export led recovery’. He mentioned exports quite a few times in his speech today – but there was relatively little talk of ’business investment’. Looking at the OBR’s new forecasts the reason for this becomes very clear.

They have revised down their forecasts for business investment growth in 2012 by a huge 6.9%, revised down 2013 by 2.5%, 2014 by 0.5%, 2015 by 2.4% and 2016 by 2.3%.

And all this is despite further cuts in the headline rate of corporation tax. As the TUC have long argued cuts in corporation tax, especially if funded through cuts to capital allowances, will not improve business investment.  It seems the OBR is now starting to agree.