George Osborne prepares to give his 2010 budget speech. Photo: Number 10 / Crown Copyright

Unhappy Birthday: 5 years on, Osborne’s austerity budget has failed

22 Jun 2015, by Geoff Tily in Economics

Five years ago today, George Osborne published his austerity budget.

His philosophy of action was set out a few months ahead of the election in the Mais Lecture (25^th February 2010). 

Deploying the (now somewhat discredited) work by Reinhart and Rogoff (issued in January 2010), he argued “So while private sector debt was the cause of this crisis, public sector debt is likely to be the cause of the next one”. He emphasised the threshold of 90% of GDP, “after which the risks of a large negative impact on long-term growth become highly significant”. And he warned,

And even on official internationally comparable measures of debt, we are forecast to break through 90% of GDP in just two years time.

The Labour government reacted to these provocations and at the March 2010 budget set out a changed strategy leading to a revised profile for the so-called ‘Treaty debt ratio’ which then peaked at 89.2 % of GDP in 2013-14.

The most recent official estimate for the Treaty debt ratio in 2014 Q4 was 89.4% of GDP; this March, the OBR forecast the ratio rising to 89.7 – i.e. 90 per cent, uncertainties apart – in both 2015-6 and 2016-17. According to the European Commission Spring forecast, UK public debt will rise to 90.1% of GDP in 2016.

Treaty debt ratio (%GDP), outturn and EU forecast

On the basis of the OBR/ONS headline measure of ‘public sector net debt’, the outcomes are even worse for the government. The Chancellor inherited a plan with debt set to rise to a peak of 74.4 per cent of GDP in 2014-15. The June 2010 ‘long-term plan’ intensified cuts with the goal of a greater reduction in debt to be achieved sooner. Debt was set to peak at 70.3% of GDP in 2013-14.

Public sector net debt, % of GDP

His policies have failed on the basis not only of his own plan, but also the plan he inherited. According their March forecasts, the OBR expect public debt to exceed his goal in every year up to and including 2019-20 (the final year of the forecast). Moreover since 2012-13 public debt has exceeded the projected peak under Labour’s plans; this is expected to continue until 2018-19.

Rather than 90% of GDP marking the point at which “the risks of a large negative impact on long-term growth become highly significant”, the real danger has proved to be the austerity policies aimed at avoiding that threshold. In the UK and other countries alike, austerity policies have caused a “large negative impact on long-term growth” and have increased rather than reduced the risk of hitting the 90% threshold.

Now the threshold may well be fatuous as implied by the critiques of Reinhart and Rogoff (see), but either way austerity has not succeeded in bringing debt under control. A second attempt in the current Parliament is likely only to make matters worse.  As the Nobel-Prize-winning economist Amartya Sen put it earlier this month:

… expanding rather than cutting public expenditure may do a much better job of expanding employment and activity in an economy with unused capacity and idle labour …  the most effective way of cutting deficits is to resist recession and to combine deficit reduction with rapid economic growth. (New Statesman, 5-11 June)