Economic outlook 2007

Gordon Brown has been a 'lucky' Chancellor in many respects - he inherited an economy in which many of the hard choices had already been taken and he has presided over the UK economy during a time of broadly benign global economic circumstances.

Britain's economy will grow by a robust 2.9% this year, according to the International Monetary Fund (IMF). In the final draft of its annual health check on the economy, the IMF praised Britain's economic performance as "impressive" and revised up its 2007 growth projection from an earlier 2.75%. The report provided a boost for Gordon Brown ahead of the budget.

In fact, the Chancellor claimed that the British economy is growing faster than all the other G7 economies and he forecast growth of 2.5-3% for both 2008 and 2009 after growth of 2.75-3.25% this year.

However, the IMF's praise was not unqualified. It warned of the need to press the case for wage restraint to avoid a recent spike in inflation fuelling a wage-price spiral. Not surprisingly, in the Budget Speech, the Chancellor claimed that inflation would fall back to be on target for 2008 and 2009.

The Chancellor has already imposed the toughest pay settlement on public sector workers for a decade, unveiling average pay increases of just 1.9%. "Continuing to communicate the importance of wage restraint will help minimise the need for additional increases in interest rates," the IMF said. "Depending on evolving prospects for wage growth, some further tightening of monetary policy [increases in interest rates] may be required."

The IMF was also less laudatory about public finances, urging the government to curb spending growth and make "disciplined choices" in the Comprehensive Spending Review -- the three-year settlement to be unveiled this summer.

For the past six years, continuously, somewhere around 74-75 per cent of the entire population between 16 years and statutory retirement age has been in work - this is likely to be a record outside wartime. The Chancellor told us that in the last year employment has risen, with 220,000 more men and women in work.

Economic figures showing the UK economy putting in a far stronger performance for 2006 than the Chancellor forecast in his previous Budget also help. Economic output in Q4 2006 rose by 0.8%, above trend and the strongest performance for more than two years. Growth has now been above its trend rate, estimated by most commentators at between 0.6-0.7%, for five quarters running and is one of the reasons why some believe the Bank of England will raise interest rates further.

On a year-on-year basis, economic growth was confirmed at an annualized 3%, the highest rate of growth since Q3 2004. The main driver was the service sector, which now accounts for around 74% of the total UK economy. Over 2006 as a whole, the UK economy grew by 2.7%, in line with Chancellor's Pre Budget Report forecast.

At the same time, business investment has surged ahead to reach its fastest pace since the technology boom of the late 1990s. Investment by companies rose by 3.3% in Q4 2006, taking the annual growth rate to 11.1%. Excluding public corporations, business investment was up by 11.6% over the year, the fastest pace since 1998. In his Pre-Budget Report, Gordon Brown estimated business investment growth of a more modest 5.75% for the year. In his Budget speech the Chancellor said business investment is forecast to rise again by more than 7% this year.

The last public finance data before the budget, which coincided with the Chancellor's 56th birthday, showed there was a net cash surplus of £21.4 billion last month after a 9% surge in income tax from record City bonuses. January is traditionally a strong surplus month since self-assessment income tax for the previous tax year has to be in by the end of the month.

This year the tax deadline was disrupted by a civil service strike and it is possible that some of January's tax receipts will not yet have been recorded but will show in the February figures. The government's preferred measure - public sector net borrowing - recorded a surplus of £10.3 billion, the highest for six years.

Chancellor Gordon Brown told us hat Britain's net borrowing, which in the early 1990s went as high as 8% of national income is this year just 2.7%. It will fall to 1.4% by 2012.

Yet storm clouds may be gathering on the economic horizon - one is the trade deficit on goods and services, which rose by a quarter to £56 billion last year. Over the past 25 years, since the pound was floated, the trade deficit has topped 2% of national income ten times. Of these, five have come in the past eight years. However, in no single year has the deficit come as high in real terms as at the end of the unsustainable booms of the early 1970s and late 1980s.

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