Nick Clegg announced two new fiscal rules that Liberal Democrats would implement should they form a new coalition after the 2015 General Election.
The Deputy Prime Minister told an audience at Bloomberg that they will “significantly reduce” national debt as a proportion of national income each year until it reached “sustainable levels”, so long as growth is positive. The second rule would be to only run cyclically-adjusted balanced budgets after ignoring capital spending “that enhances economic growth or financial stability”.
So what do these rules mean?
The wording of Clegg’s debt rule is surprisingly tight. He’s not saying that the national debt won’t carry on growing. He’s just saying that it will grow less quickly than national income, and then only when the economy is growing. The main ambiguity concerns what “significantly reduce” means, and what “sustainable levels” are. Looking at Budget 2014, the OBR estimated that net debt would fall from 78.7 per cent of GDP next year to 78.3 per cent the following year. It would then fall by 1.8 and then 2.3 percentage points to reach 74.2 per cent in 2018-19. This is probably what Clegg means.
But what are the risks? These OBR estimates assume interest rates on gilts edging up slowly from 3.3 per cent in 2015-16 to 4.0 per cent in 2018-19. In addition, they assume GDP increasing at 3.9, 4.6, 4.5 and then 4.4 per cent in cash terms. This is important because most of the national debt is not adjusted for inflation. If economic growth slows down but by enough to suspend the rule, not only would that increase the debt-to-GDP ratio, it would also mean that tax revenues would disappoint, spending pressure would increase and interest rates on government borrowing might rise faster than expected. The plans also assume the Government will carry out cuts to welfare spending which it has penciled in but which remain unspecified.
Mr Clegg’s balanced budget rule is somewhat less tight. First, it only applies to ‘cyclically adjusted’ budgets. That means if the economic cycle is miscalculated too much spending or absent tax revenue could be cyclically adjusted away. It also only applies to current spending which is problematic for two reasons. It assumes any capital spending will recoup itself through stronger growth and because, as Mr Clegg said about spending under the previous government, ministers might be tempted to “slap the words ‘capital spending’ on anything and everything just so they could get away with borrowing to pay for it”.
The problem is that not all capital spending by government is so efficient and productive. And by including housing in our ‘infrastructure’, Mr Clegg began his campaign to spend much more of our money on his projects.
we cannot build a stronger economy and a fairer society where there are opportunities for everyone unless we are prepared to put our shoulders to the wheel and use the muscle of the state – if necessary through borrowing – to rewire and revamp our infrastructure. Nowhere is the problem more acute than housing.
We aren’t building the infrastructure we need, whether that’s housing, transport or telecommunications. But the problem is too much “state muscle”, as he puts it, not too little. Planning rules are stopping developers from building the homes we need in the places buyers want to live, and they are making it much too expensive to build them in the first place. And Heathrow is desperate to build a new runway to provide new capacity for our air transport networks in the place where they’re most wanted. But it can’t, because “the muscle of the state” has decided it wants to spend the years writing a report while spending billions of our money on a seriously flawed high speed rail project that no private business has any interested in building with their own money.
The problem is best summed up when Mr Clegg rallied listeners to the cause of spending taxpayers’ money on housing projects:
It's time to put our money where our mouth is.
Mr Clegg, it’s not your money. It’s ours.