Money News
The UK economy is looking buoyant, according to the Ernst & Young ITEM Club autumn forecast, due to the continued strength of the housing and financial markets and growth in the UK labour force. But chief economic adviser, Peter Spencer, says interest rates need to be raised again in November to stop credit expansion and asset price inflation spilling over into excessive demand and inflation. And if house prices continue to accelerate, rates will have to rise further in 2007.
ITEM has revised its growth figures to reflect this buoyancy and is now predicting growth of 2.9% in GDP in 2007 (compared to its previous forecast of a 2.6 % GDP increase) and suggests there is plenty of capacity for the UK economy to grow.
The UK economy has been bolstered in recent months by a significant rise in the number of older and retirement age workers, as well as migrant workers, which has boosted the labour force; a buoyant FTSE; healthy retail sales figures and rising house prices.
These stronger than anticipated growth figures have gifted the Chancellor with a tax revenue boom as monetary expansion pushes up asset prices and transactions, increasing revenues from for example, stamp duty, giving Gordon Brown plenty to be positive about ahead of this year's Pre Budget Report (PBR).
The Treasury, after missing its targets last year, adopted more conservative forecasts in the March Budget and Mr. Brown will be able to make much of this growth spurt in the PBR. However, the public spending figures are already higher than projected. Whilst the Treasury may be benefiting from extra tax revenues, the public purse is still empty. Indeed, ITEM believes that the Chancellor can't continue to finance the public sector through excessive levels of borrowing as he has done in recent years, despite his tax revenue boom.
The UK's budget deficit was £11 billion in 2005/06 and current figures suggest that this is likely to remain unchanged in 2006/07. If the Treasury is to meet its fiscal targets, public spending will have to slow dramatically in the second half of 2006/07, but just where the axe will fall is anyone's guess. One thing is clear, if the Treasury overshoots on its fiscal targets it risks violating the 'golden rule'. The golden rule states that the government may only borrow to invest over the course of an economic cycle.
One option, according to Spencer, would be for the Chancellor to push back the economic cycle, which is due to end in 2008/09.
He explains, "The Chancellor will not be able to meet his golden rule next year if, as ITEM predicts, the current budget deficit remains in double figures.
"In fact, if public spending continues apace, there is only a 50-50 chance that the golden rule will be met by 2009/10.
"ITEM suggests that the Treasury could use the higher growth forecasts as an excuse to tinker with the economic cycle (as they have frequently done before) and roll it back from 2008/09 to 2010/11 or beyond, to keep the Chancellor's golden rule intact."
23 October 2006 © Moneyextra.com
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