If you get the wrong answer, change the question, was the approach to fiscal tests under the previous Government.
Gordon Brown was immensely proud of his Golden Rule, which was supposed to ensure that the public finances were in balance. But the rule was consigned to the scrapheap, along with Prudence and “the end to boom and bust” after the credit crisis hit.
The rule required that government spending, excluding investment, should be balanced by tax revenues over the economic cycle.
George Osborne claimed yesterday that the previous Government had failed the test to the tune of £485 billion.
In place of the Golden Rule, a new target was introduced to halve the deficit to 5.5 per cent of economic output for 2013-14.
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Yesterday Mr Osborne dumped that and came up with his own “fiscal mandate” — to balance the budget, excluding investment, by the end of five years, adjusted for the economic cycle.
This is tighter than his own previous target. And it differs from the Golden Rule in several key ways. Because it was backward-looking, the Golden Rule allowed the Government to run persistent deficits when growth was strong, on the basis of past surpluses.
The Golden Rule was also open to manipulation by the Government because it was the Treasury that decided when the economic cycle started and stopped. This called the credibility of the framework into question, even before the financial crisis.
Under Mr Osborne’s plan it is the new independent Office for Budget Responsibility, headed by Sir Alan Budd, that will determine where we are in the economic cycle. It will judge whether, stripping out the ups and downs of the cycle, the underlying or “structural” deficit in the public finances is likely to be eliminated within five years.
Having examined the Chancellor’s tax and spending proposals, Sir Alan said yesterday that there was a greater than 50 per cent chance of achieving the fiscal mandate and meeting a separate target that public sector debt as a percentage of output had peaked. Indeed, Sir Alan said that the targets would be met a year early, in 2014-15.
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On the basis of the previous Government’s plans, Sir Alan had forecast that there would be a structural deficit, excluding investment, of 1.6 per cent of output in 2014-15. Now he says there will be a surplus of 0.3 per cent.
Sir Alan also forecasts that Britain will meet its 2014-15 target under the European Union’s Stability and Growth Pact, which would have been missed under the Labour Government’s plans.
The target date for the new fiscal mandate has initially been set for a five-year rolling period, which the Treasury said reflected the scale of the task. It was designed to ensure that the fiscal consolidation was delivered “over a realistic and credible timescale”. Once the public finances are closer to balance, the target date could be shortened to create a tighter constraint. A new debt target will also be set in due course.
Mr Osborne’s plans to accelerate the reduction of the deficit were welcomed in the financial markets. Fitch Ratings, the credit rating agency which has been calling for tougher action to protect Britain’s AAA rating, said the plans were materially stronger than those of the previous government.
“Fitch’s preliminary assessment of the Budget is that it sets out an ambitious deficit reduction path that, if delivered upon, will materially strengthen confidence in UK public finances and its AAA status,” said David Riley, head of sovereign ratings.
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The National Institute of Economic and Social Research said that the forward-looking fiscal mandate was “a welcome innovation”. But it pointed out that while the plan offered a higher than evens chance of success, recent events have highlighted that Mr Osborne may have to tighten even more in future Budgets. In particular, the public finances need to be strengthened further if the economy is to be prepared for another crisis and to make adequate provision for an ageing population.
But first, Mr Osborne needs to deliver on these plans. And that is going to be tough enough.