Rishi Sunak must now work out with Boris Johnson whether to stick to the budget limits set by Sajid Javid or open the spending taps
Boris Johnson’s regime change at the Treasury could herald yet more tweaks to the rules that keep Britain’s budgets in check.
The shock resignation of Sajid Javid as chancellor of the exchequer last week robbed the new Conservative government of a fiscal hawk who moderated the big spending ambitions of the most powerful prime minister since Tony Blair.
His successor, Rishi Sunak, must now work out with Johnson whether to stick to the budget limits set by Javid or, as many now expect, open the spending taps to charge up the economy as Britain embarks on life outside the European Union.
If he does, the new chancellor may need to foster fiscal credibility among investors with a new version of the more than a dozen fiscal rules introduced since 1997. Most of those have been broken or scrapped by Conservative administrations publicly committed to prudence.
Even before Javid quit following a row with Johnson weeks before he was due to deliver his first budget, doubts were growing that the prime minister could keep to his promise to balance day-to-day government spending and revenue.
Bloomberg Economics puts the chance of the current budget staying in surplus in three years at little more than 30%. The Office for Budget Responsibility expected to follow the Bank of England and downgrade its growth forecasts next month.
The risk is that Sunak goes for a Trump-style stimulus, ditching the surplus goal or augmenting already ambitious infrastructure investment plans.
“That would open the door to a more sizable fiscal loosening which, if delivered, would provide upside risks to both growth and inflation while making it less likely the Bank of England cuts rates this year to support the economy,” said Dan Hanson, Bloomberg Economics.
For years, the lodestar of fiscal policy in Britain has been an ever-changing set of fiscal rules.
In 1997, then Chancellor Gordon Brown sought to convince investors that a Labour government could be trusted with the public finances by promising to balance the budget excluding investment over the economic cycle. That watery target led to multiple changes to the definition of “investment” and the length of the cycle.
The rules were suspended, along with a commitment to stable and prudent debt levels, when the financial crisis struck.
George Osborne, for the Conservatives, introduced three sets of rules from 2010. His first, to eliminate the structural deficit within five years, was derailed by Europe’s sovereign-debt crisis and replaced with a rolling-three year target.
His third goal was to return the budget to an outright surplus by 2020 but Osborne conceded that the target was unlikely to be met after the 2016 Brexit referendum delivered a jolt to the economy.
Instead, Britain is on course for a deficit of around 40 billion pounds ($52 billion) in the current fiscal year. Osborne also breached pledges on debt reduction and welfare spending.
His successor, Philip Hammond, was set to achieve his goal of keeping the structural deficit below 2% of GDP in 2020-21, until accounting changes and a 13 billion-pound spending boost announced by Javid drove up government borrowing. His ambition to balance the books by the mid-2020s was always in doubt.
Johnson is trying to cement support among working-class voters in northern England and the Midlands who backed the Conservatives for the first time in the general election. Much of the extra 20 billion pounds of capital spending allowed under existing rules may be directed at these regions, financed with debt at record-low interest rates.
His big spending promises set Britain apart from the rest of Europe, where governments aren’t rushing to do more to spur growth and inflation as monetary policy reaches its limits.
“We are in an environment, much more than five years ago, where people are asking if you can run quite large fiscal deficits on a sustained basis,” said Adair Turner, chairman of the Institute of New Economic Thinking. “Even if you’re sympathetic to that point of view, there has to be a limit somewhere.”
It also marks a departure for the U.K. Tory party, which has prided itself on a reputation for fiscal discipline. When the Conservatives came to power after the financial crisis, the budget deficit stood at over 10% of economic output. Now it is less 2% after almost a decade of cuts to everything from pay and welfare benefits to policing and local libraries.