The UK looks on course for a fiscal policy reset and boost

The last few months have seen more and more bodies come out in favour of easier fiscal policy or a fiscal stimulus. For some such as the International Monetary Fund or IMF this has been something of a U-Turn as it had of course previously imposed austerity on several nations in the Euro area particularly Greece. For others it has been a policy shift from telling us that easier monetary policy would work as they decided that people would figure out that  8 years of ever easier monetary policy meant by definition that it had not. Some of course were always in favour and will be pleased to note the economic mood music joining them. There have been signs that UK economic policy was moving that way to and we have leaned some morning this morning already as UK economic announcements become subject to the political conference timetable. However some care is needed as of course the UK has run a series of fiscal deficits and the talk of a fiscal surplus was just that. I have pointed out many times that the former Chancellor George Osborne seemed to be 3/4 years away from a surplus at whatever point in time one might choose. Although there was apparently at least one person who believed them if this from Robert Peston is any guide.

Amazing that borrowing rules torn up & we don’t have new ones. Think what City would say if this happened on Labour’s watch

What has changed for the UK?

There has been a change of Chancellor as George Osborne was removed and replaced with Phillip Hammond and it looks as though the new government will be fiscally looser. However there was also a major change in an element of the UK public finances as bond yields or what are called Gilt yields fell heavily making it much cheaper for the UK to finance a fiscal deficit. This meant that the much vaunted “bond vigilantes” have had all the success of General Custer at Little Big Horn.

It  seems like another world now to look back and see that the UK entered 2016 with a 10 year Gilt yield of around 2%. We saw international yields plunge helped by ECB and Bank of Japan policy and the song was clearly this from Alicia Keys.

Oh, baby
I, I, I, I’m fallin’
I, I, I, I’m fallin’

Depending on which date you choose this took us to around 1.3% and then post the EU Leave vote Gilt yields fell even faster and price rose. This was a more domestic move and to some extent this time around the UK helped pull international yields lower. The Bank of England was expected to add to its existing £375 billion portfolio of UK Gilts and duly announced another £60 billion as well as Open Mouth Operations saying that more would be done if it considered it necessary. Thus the 10 year Gilt yield fell and is 0.74% as I type this as the Bank of England purchases an extra £3.51 billion of UK Gilts each week.

If we now switch to the yield which really matters for fiscal policy we see the impact of this. If we borrowed for 30 years right now as I type this the Gilt yield is 1.46%. That is extraordinarily low for the UK and as a comparison over my career ( also 30 years or so) I have seen it as high as 15%. This means that more projects should be viable due to the lower cost of financing the project.

What has the Chancellor actually said?

The Guardian has been hot in the case and reports this claimed early wire on his speech later on.

The Conservatives were elected “on a promise to restore fiscal discipline”, Hammond is to note, adding: “And that is exactly what we are going to do. But we will do it in a pragmatic way that reflects the new circumstances we face.”………“But when times change, we must change with them. So we will no longer target a surplus at the end of this parliament.”

That seems to open the door for an easing of policy which would be consistent with the hints we have had so far. Speculation is of an easing of the order of a bit more than 1% of economic output of GDP but of course that is speculation for now. We did however get one specific plan.

Hammond will also unveil a £3bn package to speed up homebuilding, including using surplus public land and brownfield sites, encouraging smaller builders and innovations such as prefabricated modular homes…….Of the £3bn total, a third will be used as short-term loan funding for smaller housebuilders and what are described as “custom builders and innovators”, intended to create an extra 25,500 homes before 2020.

An extra 25,500 homes does not sound much does it? Also there is something very familiar at play here for announcements about extra UK housing which is that some of it has been announced in the past! So only around a third is actually new here. Perhaps we should be grateful that announcements of more have in reality meant less as has happened at the Ebbsfleet project.

They should get in the person I watched for a while on Saturday evening dismantling one of the cranes by Battersea Power Station! Quite a work ethic and very brave too.

The BBC has gone further.

“As we go into a period where inevitably there will be more uncertainty in the economy, we need the space to be able to support the economy through that period,” he said. “If we don’t do something, if we don’t intervene to counteract that effect, in time it would have an impact on jobs and growth.”

As ever it is the two i’s of infrastructure and investment which lead the rhetoric.

“I do think there is a case that we should look at very carefully for targeted, high-value investment in our economic infrastructure”


There is a fair bit to consider here. The fiscal policy of the UK is on its way to a reset and is doing so from a position of an existing deficit as shown below. From the Office for National Statistics.

In the financial year ending March 2016 (April 2015 to March 2016), the public sector borrowed £76.5 billion. This was £18.9 billion lower than in the previous financial year and less than half of that in the financial year ending March 2010 (both in terms of £ billion and percentage of GDP).

So austerity was a reduction in the overall deficit over time rather than a real push to a surplus. In the meantime circumstances have changed because the UK can borrow at around 1.5% for the longer-term rather than the 5% or so expected back in the day by the Office for Budget Responsibility.

Can we rise to the challenge or will it be another example of what is called “pork-barrel” spending? I am sure you can all think of examples of both. If we just look at travel infrastructure there are clear cases yet sadly we seem ever more wedded to the expensive HS2 project which will not actually carry that many people. As Battersea Power Station is on my mind perhaps Pink Floyd could have another go but this time replacing the pink elephant with a white one. An HS3 style plan for northern cities seems much wiser to me. Although of course there are capital style risks for the future in letting the national debt rise and rise as well as dangers for inflation with money supply growth also strong as I pointed out on Thursday..

Meanwhile UK manufacturing appears to be doing rather well if this morning’s Markit PMI survey is any guide but of course that is so far…..

Number Crunching

There are regular reports that we can borrow at negative levels via index-linked Gilts which may lead some to conclude that this is the way to go. However some of this is another Ivory Tower misunderstanding. Yes there are elements that look cheap here but unlike conventional Gilts there is a variable which needs to be assumed which is inflation and in particular inflation as defined by the Retail Price Index. An inflationary episode would lead our new experts to be declaring yet another “surprise” which of course “could not possibly have been expected”




19 thoughts on “The UK looks on course for a fiscal policy reset and boost

  1. Yes but is it a reset or simply bowing to the obvious?

    In my view Osborne’s Fiscal Charter was a stunt when it was announced and a failure in operation; there is no way we would have reached a surplus by 2020.

    Hammond, to my way of thinking is simply recognising the obvious. There will be at least turbulence in the next few years and, possibly, a recession which will blow the figures out of the water anyway so why not make a virtue out of necessity? This is more smart politics than an economic reset.

    The markets seem to view this move favourably; why I do not know. Effectively it’s a further push down the rabbit hole of debt with no end in sight and if we get a sterling crisis or the emergence of high inflation – neither of which are remote possibilities – then all bets are off as there will have to be a response which will set things back with a vengeance. We were a Ponzi economy ten years ago and we still are; until we “unPonzi” things we will not have a sustainable path forwards.

    • Hi Bob J

      A bit of both I think. It is interesting to speculate what George Osborne would have done and his track record was to wait and later act. So we would probaly have got him being pragmatic in the Autumn Statement 2017 or the Budget of 2018. So a timing change.

      As to the markets reviewing it favourably I am not so sure. Some companies will like the business and the Gilt market is mostly being driven by front-running the Bank of England at the moment

    • “Yes but is it a reset or simply bowing to the obvious?”

      Does it matter which classification you use to explain the same phenomenon?

  2. Hi Shaun, Interesting early preview.Especially the note about prefab homes. Time to dust off my Ergohome innovation, volumetric pre-fab made in a factory like a car. Innnovated in 2009 and waiting for uptake since then… Philip Hammond needs to tell the planners though, immediately I procured some brownfield land and showed my affordable and eco homes the planners banned them!

    On a practical note, given our budget deficit and obvious and persistent balance of payments deficit is this not the time that “markets” call time on UK Plc. Like any banker overseer, rates are very low until you actually seek to borrow using them. I pay for an overdraft facility I never use because I dont trust lenders. HBOs was in the news again for the writedowns against their “distressed debt shenanigans”.

    So what Im saying is that money borrow for real projects, not just printed for white elephant long grass ones ( HS2) will be more expensive… interest rates goin up anyone? Well I think not, dont know what porkbarrel is but you are probably right.

    Paul C.

    • Hi Paul C

      Sorry about the pork barrel reference which I thought was in more common usage but has been used in Japan to describe infrastructure spending which somehow benefits your supporters rather than the nation . Shinzo Abe’s first government was criticised on such grounds.

      As to the markets I think we could get a fair sum away at these rates for two reasons. Any yield is good to some in these times and also the Bank of England is buying away. Exactly how much is of course open to doubt.

      I am sorry about your pre-fabs, the fact they got rejected is maybe a good sign. After all even the Beatles had to face rejection before success.

  3. How relevant are figures such as the Gilt yield if the government continues to use PFI (or whatever it is called now) arrangements for these infrastructure projects?

  4. Politicians are the last people to be given the job of deciding what to invest in with today’s “cheap” money. Their track record is appalling ego projects that come late and over budget, chosen to help their own popularity. What is needed is properly considered projects and initiatives that really deliver, apprenticeship, education, broadband, etc. These should be chosen by experienced non political consultants and experts, not career politicians wanting a photo opportunity opening a new overpriced nuclear power station.

    • Hi Foxy

      You are of course correct. One of my late father’s argument was that we should have experts deciding it. A problem with that has been shown in Europe with the various technocrat impositions. But perhaps we could find a way of promoting the best people.

  5. Is there a case here of, is a fiscal reset necessary, rather like was the rate cut necessary. Is Hammond in the same position as Carney, needing to do something just in case. In brexit terms it is not immediately obvious that it is necessary in the short run. Growth will be more post than pre vote. But it is a good thing to do anyway, as a just in case, in the short run, as well as being useful. But I’d also be investing in things that generate income. Don’t see why some of these brownfield sites can’t be given to energy producers and crude oil refiners at low rates, in addition to housing projects.

    • Hi am

      There is so much splashing around in the water that this question seldom gets asked. You are right to point out that the easy way out for those in authority is to be seen to “do something”. Should we see as 2017 inflation build up then they will dodge that bullet.

      There are good things which can be done but will we make good choices? I hope so….

    • I think he’s doing a structural long term change. He’s not bothered about the short term as he says “If we don’t do something, if we don’t intervene to counteract that effect, in time it would have an impact on jobs and growth.”“I do think there is a case that we should look at very carefully for targeted, high-value investment in our economic infrastructure”.

      So he wants to invest in high value economic infrastructure which means a long time before the pay back arrives. He describes that long time as “in time”.

      Refreshing to see a politician looking beyond the next election, I hope he means it.

    • Hi Forbin

      Maybe indirectly but the main scheme for them is the Term Funding Scheme of which only £50 million has been claimed, albeit that was probably just a trial run. Also there is plenty of the Funding for Lending Scheme left…

      Meanwhile Brent Crude Oil is above US $50 per barrel which is getting expensive with the UK Pound £ below US $1.29.

      • Couldn’t agree more, both very poor vfm, BUT…if arrogant politicos will build their pyramids anyway, best they do it on the cheap.

        • Move the House of Parliament out of London would be a good start and send the right signal to the rest of the country who voted for Brexit and the anti South East bias.

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