A Thinktank challenges claim of ‘tough but fair’ measures and predicts poorer families will suffer in second half of parliament

Britain’s leading experts on tax and spending have strongly challenged George Osborne’s claims to have delivered a “tough but fair” budget, concluding that the measures in the emergency package would hit the poor harder than the rich.
The Institute for Fiscal Studies said the chancellor and Nick Clegg could only assert that the better off were the big losers from the austerity move by including reforms announced by Labour, such as the changes to pension contributions.
The thinktank gave its view as David Cameron came under Commons pressure to justify the insistence that the budget was fair, and as Osborne admitted he was looking for extra welfare savings to spare Whitehall departments, other than health and international development, from cuts averaging 25% during this parliament.
Noting that Britain was facing the “longest, deepest, sustained cuts in public spending since the second world war, Robert Chote, the IFS director, said: “Osborne and Clegg have been keen to describe yesterday’s measures as progressive in the sense that the rich will feel more pain than the poor. That is a debatable claim. The budget looks less progressive – indeed somewhat regressive – when you take out the effect of measures that were inherited from the previous government, when you look further into the future than 2012-13, and when you include some other measures that the Treasury has chosen not to model.”
The IFS estimates that the squeeze on poorer families would increase in the second half of the parliament as welfare cuts kicked in and the two-year increase in child tax credit ended.
Yvette Cooper, the shadow work and pensions secretary, said: “The IFS has confirmed today exactly what we thought yesterday: that George Osborne’s budget was a typical Tory budget – unfair and hitting those on lower incomes hardest. So much for ‘we’re all in this together’.”
Osborne’s aides said that it was legitimate for the government to include pre-announced measures in its analysis of fairness. It was arbitrary to look at Tuesday’s measures in isolation. “What matters is what happens over the course of this parliament,” one said, adding that the richest 10% of the population suffered most from the budget once both Alistair Darling’s and Osborne’s measures were taken into account.
The IFS found that the richest 10% would be 7.5% worse off by 2014-15 because of measures coming into force during the current parliament but that almost seven percentage points of that was due to Labour changes.
The poorest 10% were left almost untouched by Labour’s plans but would see their incomes cut by more than 2.5% over the next five years.
With the IFS estimating that some government departments could face cuts, in real spending, of up to a
third during this parliament, Chote added: “Perhaps the most important omission in any distributional analysis of this sort is the impact of the looming cuts to public services, which are likely to hit poorer households significantly harder than richer households.” The thinktank said that if the coalition wanted to cut spending on schools and defence by only 10% there would need to be reductions of up to 33% in housing, universities and the police. It added that Britain was facing an unprecedented six consecutive years of public spending cuts, which would more than wipe out all the increases under 13 years of Labour.
Osborne said: “If, over the coming couple of months, we can find further savings in the welfare budget, then we can bring that 25% number down. In the end that is the trade-off, not just between departments, but also between the very large welfare bill and the departmental expenditure bill.”
Cameron was twice pressed to explain why tables on the distributional impact of the budget stopped in 2012-13, before £8bn of welfare cuts came into force, and took into account measures announced by the last Labour government.
He replied that he would have two further budgets after 2012-13 that would do more to ease child poverty. But Labour MPs claimed that Cameron’s true intention was, by that date, to have altered the definition of child poverty – a move his new poverty adviser, Frank Field, had recommended.
Darling, the shadow chancellor, also challenged Simon Hughes, the Liberal Democrat leader, to justify claims that the budget was fair when the single biggest measure – the increase in VAT – had been denounced by him only days earlier as “the most regressive form of tax” in that it “penalises the poor”.
Vince Cable, the business secretary, claimed raising VAT was not necessarily regressive, saying the tax was fairly “progressive” due to the exemptions on food, children’s clothing and other key essentials in the expenditure of poorer people.

Franklin D Roosevelt’s mistake wasn’t boosting the economy with government spending, it was heeding the advice of the deficit hawks when he sought re-election and tipping the US economy back into recession.

Larry Elliott, economics editor
The Guardian, Monday 14 June 2010

The Germans are doing it. The Greeks, the Spanish and the Portuguese believe they have no choice but to do it. George Osborne believes it is his patriotic duty to do it. Around the world, cutting budget deficits has become the priority for policymakers fearful that rising debt levels will leave them at the mercy of capricious financial markets.

Mervyn King has applauded the return of fiscal conservatism. So has the Organisation for Economic Co-operation and Development. Two months after they urged that budgetary support be maintained until recovery was fully entrenched, finance ministers and central bank governors from the G20 said they welcomed the plans announced by some countries to begin deficit cutting without delay.

Budget deficits are certainly high across the G20 and beyond. But they are high primarily because of the severity of the worst recession since the second world war and because of the action taken collectively by governments to prevent that recession turning into something far, far worse.

As things stand, a second Great Depression has been averted, but growth has ranged from the weak in Europe to the unspectacular in the United States. Banks are not lending. Unemployment is running at near double-digit levels in the US and the eurozone. The determination to cut budget deficits in these circumstances does not show that policymakers of probity and integrity have replaced the irresponsible spendthrifts of 2008 and 2009. It shows that the lunatics are back in charge of the asylum.

As evidence, take David Cameron’s warning last week about the need for austerity. The prime minister said: “Nothing illustrates better the total irresponsibility of the last government’s approach than the fact that they kept ratcheting up unaffordable government spending even when the economy was shrinking.”

This brought the apt riposte from Marshall Auerback of the New Deal 2.0 thinktank. “So we’re supposed to ratchet up government spending when the economy is growing? When it can present genuine inflationary dangers? If this is the type of policy incoherence we have in store, then God help the United Kingdom.”

There are economically literate members of the government capable of pointing out to the PM that he is talking dangerous nonsense. Vince Cable is one. Chris Huhne is another. Sadly, though, the Liberal Democrats seem unwilling or unable to mount an argument against policies that now threaten to repeat the mistakes of Japan in the 1990s, when every tentative recovery was snuffed out by over-hasty retrenchment.

Let’s start with a bit of history. The budget hawks like to cite Geoffrey Howe’s draconian 1981 budget as evidence that fiscal tightening is perfectly consistent with economic growth. So it is, providing there is scope for an over-valued pound to depreciate and for excessively high interest rates to be cut. So it is, provided that tumbling oil prices raise the real incomes of consumers and cut costs for businesses. All these things happened in the early 1980s; none of them are likely to occur now. The pound has already fallen by 25%, interest rates are at 0.5% and oil prices show no sign of falling much below $70 (£48) a barrel.

The real historical comparison is not with 1981 but, as the American economist Paul Davidson notes, with the US in 1937. On arriving in the White House in 1933, Franklin D Roosevelt used government spending and tax breaks to boost the economy. The US ran deficits of between 2% and 5% during FDR’s first term but, while the economy started to pull out of the deep trough reached in 1932, the national debt rose from $20bn to $33bn .

Coming up for re-election, Roosevelt heeded the advice of the “sound money” economists who delivered the same sort of warnings that we are hearing today: the US was running unaffordable budget deficits that would impose an intolerable burden on future generations. The budget for 1937 was slashed and the US economy promptly went back into recession. Falling tax revenues meant the budget deficit rose to $37bn.

When deficit spending resumed in 1938, the economy started to grow again but did not fully recover until the US entered the second world war. The deficit hawks disappeared into obscurity as the need to win the war trumped all other considerations. By 1945, the US budget deficit stood at more than $250bn or 120% of GDP.

But the beneficial spin-off from the war effort was that the domestic economy was humming. Resources that had stood idle in the 1930s were fully utilised and there was full employment. Strong growth brought both the annual deficits and the size of the national debt down in the 1950s. Far from being burdened with unpayable debt, the baby boomers born in the late 1940s and 1950s were the most blessed generation in history.

That’s enough history. Just as in 1937, private demand in most advanced countries is too weak to sustain the recovery. Budget deficits are a reflection of high unemployment and low levels of private investment. They are also a reflection of the big financial surpluses that have been amassed in the private sector. Animal spirits, in Keynes’s phrase, are low. Consumers are worried about losing their jobs and are having their incomes squeezed. That makes businesses anxious about investing.

Charles Dumas of Lombard Street Research has put some hard numbers on this trend. In the US, the private sector was in deficit by 4% of GDP in 2006 but is now running a surplus of 8% of GDP. In Britain, the corresponding move was from a 1% deficit to a 10% surplus. He estimates that the global private sector surplus is now $3.3 trillion.

These are counter-balanced by pubic sector deficits that also total $3.3tn. The public sector, in other words, has been compensating for a lack of private demand. This spending was not “irresponsible”, although a collective attempt to rein in deficits when the private sector recovery is so anaemic certainly would be.

Dumas notes: “If some countries deflate their economies in an attempt to cut their government deficits, other countries will have a larger deficit – and even the deflating countries will be partially frustrated in their endeavours. Why? Because they will induce a renewed recession that will hammer tax revenue and enforce greater relief spending.” The result, he warns, “will almost certainly be renewed European recession, quite possibly a prolonged depression”.

So why are they doing it? Is it, for all Nick Clegg’s guff about “progressive cuts”, that the real agenda is to complete the demolition job on welfare states that was started in the 1980s? Or is simply that the deficit hawks are simply crackers?

Either way, we now have the bizarre spectacle of China, Japan, the eurozone and Britain all set on reducing budget deficits while simultaneously pursuing export-led growth. This is a logical absurdity because somebody, somewhere has to be importing all the exports. If the rest of the world assumes that the US is once again going to become the world’s spender of last resort it is seriously mistaken.

Paul Krugman calls this “utter folly posing as wisdom”. Sovereign debt problems are confined to those eurozone countries that have no way to deal with their productivity problems other than to deflate savagely. Bond markets are not freaking out about budget deficits in Britain, the US or Germany, but let’s see how they react to a return to the mass unemployment, protectionism and political extremism of 1930s.