Good morning, everybody—it is a great pleasure to be here. Thank you for inviting me. By way of advance apologies, if my voice goes and I become unresponsive later in the proceedings, that is through the flesh being weak rather than the spirit being unwilling. I will do my best. I am beginning to think that I should be more worried about my eyesight than my throat, but there we go.
I will begin by saying a little about the economic and fiscal outlook, and I will then turn to the Scottish tax forecasts. A comparison between the current set of economic and fiscal forecasts and the ones that we produced at the time of the chancellor’s autumn statement back in November last year shows that, fundamentally, there has not been a great deal of change. The budget was largely neutral in its impact on the economy and public finances. The balance between the giveaways and takeaways in tax and spending measures does not exceed £2 billion in any year of the five-year forecast, so we are talking about an addition or subtraction to spending power in the economy of perhaps 0.1 per cent of gross domestic product. Therefore, it is not a significant budget judgment in the sense of being something that will have an enormous impact on the path of the economy in that period. However, we have made a couple of adjustments to elements of the forecast to reflect specific measures, such as excise duty changes that have an impact on inflation.
In addition to the neutral budget, economic and fiscal data have been performing broadly as we expected in the period between November and now. The economy has performed much as expected. As we anticipated, it shrank by a little in the last quarter of last year, but it seems to have come into 2012 with a little more momentum than we had previously anticipated. On the fiscal side, we have not changed our forecast for Government borrowing this year by a great deal, although that masks some slightly more significant changes in spending and tax. Government departments appear to have spent significantly less than they planned to and than we anticipated they would in November. In a sense, we have had to revise down departmental spending by about £6 billion this year. However, counter-weighing that is the fact that it looks as though tax revenues will come in about £5 billion weaker than we anticipated in November. A large part of that is to do with the fact that receipts from self-assessed income tax have been particularly weak in the past couple of months. Therefore, those two effects largely offset each other.
The starting point is fairly unchanged from the situation in November. The big picture remains that we anticipate a steady and unspectacular economic recovery in the next five years, by the standards of recoveries from past recessions. That is reasonable given that we are coming out of a financial crisis; credit conditions are not yet back to normal; fiscal consolidation is providing headwinds; and consumers and businesses are dealing with their balance sheets. We have a steady recovery.
The OBR is slightly more optimistic than the average of independent outside forecasters and slightly more pessimistic than the mean forecast from the Bank of England’s inflation reports—we are somewhere between the two. We have a forecast for the economy to grow by about 0.8 per cent this year. That is fractionally up on the November forecast simply because of the greater momentum coming into the first quarter, but fundamentally there is not a great deal of change. We have fractionally nudged down the expected growth rate in 2013, but other than that the picture is pretty much unchanged.
There has been a little bit more change in the composition of GDP, but nothing dramatic. We have taken a slightly more pessimistic view of the outlook for business investment. In the short term, that reflects the fact that business investment numbers are very volatile on a quarter-by-quarter basis, and there was quite a steep fall in the fourth quarter of 2011 that has a sort of arithmetic, automatic knock-on effect into the weakness of calendar year 2012 growth.
Looking further out, we have got slightly less dramatic investment growth in the final years of the forecast. That reflects a further examination of corporate balance sheets and our belief that official data may be somewhat overstating the amount of cash piled up in corporate balance sheets that is just sitting there waiting to be invested. There is a fair amount of cash out there, but it is not clear that it is in the hands of the sort of companies that might go out and engage in capital investment to quite the extent that the official figures suggest.
We have looked back at the performance of investment growth coming out of the previous recession. Again, it seems to be sensible to see a picture that shows a robust recovery but one that is not quite as strong as the previous recovery, so we have business investment picking up by about 40 per cent over the next five years, compared with the 50 per cent increase in the equivalent five years of the previous recovery.
Offsetting that weaker investment, we have slightly stronger growth in consumer spending. In the short term, that is partly because of payment protection insurance pay-outs, which are a kind of mini-equivalent of building society demutualisations in providing some households with windfalls that they might go out and spend. In addition, asset prices are slightly stronger in this forecast than in the previous one, so that edges things up a bit. Within a broadly unchanged growth picture, there is a little bit of reallocation between consumer spending and investment, but I would not overstate the size of that.
We have stuck with our view of the evolution of the potential output of the economy, which is very important for discussing the structural health of the public finances. Again, we assume that the potential growth of the economy takes a couple of years to return to its long-term trend growth rate. We assume that that fits with the idea of credit conditions still needing to normalise for a little bit. We end up with a path for potential GDP over the next five years that is broadly in line with the estimates of, for example, the Organisation of Economic Co-operation and Development and the International Monetary Fund and which is a bit more optimistic than that of the European Commission.
In terms of the amount of spare capacity in the economy, we estimate that the economy was running at about 2.7 per cent below full capacity in 2011, which is bang in line with the average of outside forecasts, although there is a fairly large range from about -0.5 to -4 per cent, which has quite a big impact on the assessment that is made of the size of the structural deficit versus the cyclical deficit at the moment. Overall, the picture is little changed from that of November.
If we look at the path for the budget deficit, again that is not dramatically different from the picture that we painted in November. We expect to see the deficit continuing to shrink as a share of GDP over the coming five years at roughly the rate that it has done over the past couple of years. The one dramatic change since the last time is that we have a big one-off fall in public sector net borrowing in the coming financial year, which simply reflects the fact that the UK Government has decided to take the Royal Mail historic pension deficit and some associated assets on to the public sector balance sheet. In the mysterious world of public accounting statistics, that has a variety of counterintuitive effects, one of which is a one-off reduction in Government borrowing for a year. We will also see, as the assets are then sold, a step reduction in public sector net debt of £23 billion or so after a couple of years.
However, it is important to look at the long-term picture. Although the transaction looks very favourable to the public finances over the time horizon that we focus on in the report, we need to bear in mind that the assets that the Government is getting from the transaction, which amount to £28 billion or so, are outweighed by £37 billion or £38 billion of liabilities—if you think of that as the estimated up-front one-off equivalent number to the flow of payments to Royal Mail pensioners that the Government will have to make in future. In that sense, the transaction looks negative for the public finances, because the liabilities outweigh the assets.
On the Scottish tax forecasts, as you know, in the context of the Scotland Bill we were tasked with the role of producing forecasts for the four taxes that are proposed for devolution—or, in the case of the aggregates levy, pending devolution, legal obstacles being overcome. We have done that for the first time. As I think that I said when we met informally, I was keen that we should produce the forecasts in as transparent a way as possible, so we put out a methodology paper, which explained how we intended to do it, ahead of the budget. We have had useful discussions with Her Majesty’s Revenue and Customs, which is doing most of the actual number crunching, as it has expertise in the tax areas concerned, and with representatives of the Scottish Government.
As you have seen in the paper on the Scottish tax forecasts, we have ended up in a situation in which we are assuming that we try to identify some share of the relevant UK tax base and apply that in future. In some cases, such as income tax—or the share of the particular definition of income tax that we are talking about in this context—that looks quite attractive, on the ground that the relationship has been very stable. Income tax is the largest element in the Scottish forecasts. In other cases, where the relationship is less stable, we have ended up assuming a fixed proportion that is carried forward—in large part because there is no alternative, more sophisticated approach that ends up with a better answer—rather than saying that it does not move around much.
We then had discussions as the pre-measures forecast was coming through—again, we ensured that the Scottish Government was represented at the discussions—to talk about its application to particular sets of numbers that we had. There was an issue to do with taking into account measures that had been announced in previous budgets, which might have impacts on the particular tax ratios, so the discussion was useful.
Of course, we were not able to talk to the Scottish Government about the implications of the measures that were to be announced in the most recent budget—they were held very tightly between the UK Government and national newspapers, so it was not possible to have such discussions. Therefore, we have applied HMRC’s estimates of the direct impacts in that regard. We might want to go back to that and think about whether we want to look in a more sophisticated way at whether the measures are likely to change the long-term share of, for example, the Calman wedge to the UK tax base.
As you will see from the report, we produced a set of figures. The numbers for 2012-13 range from about £4.5 billion for income tax right down to a healthy £43 million for the aggregates levy. We very much view the forecasts as work in progress for the time being. This is a learning experience, for us and for everybody. In particular, the budget that we have just had gives the opportunity for quite a nice natural experiment of going back to look at the forecasts, because it contains precisely the sort of measures that might give rise to worry about an asymmetric effect between the UK and Scotland—I am thinking about the high stamp duty for extremely high-level properties and the 50p tax rate moving to 45p.
Therefore, there is a deal more work to be done. However, we hope that we have set out as clearly as possible what we have been trying to do. We will be interested to hear members’ and other people’s views on how to do it better or differently in future.