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The Chancellor managed to meet both goals of boosting infrastructure spending and providing some relief to just-about-managing households.
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The Chancellor introduced a new set of fiscal objectives - these appear more directional than binding rules.
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This came despite a material worsening in the public finances compared with the March projections. The deficit was cumulatively £122bn worse over five years and the level of debt is now projected 10% points of GDP higher by 2020-21.
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Gilt sales were increased by £15bn this year and we project annual sales to total £120-125bn in each of the years to 2020-21.
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This was despite a relatively benign set of GDP projections from the OBR: though lower than in March, it was more upbeat than our own, consensus and the Bank of England views.
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Yet the lack of surprise on the day saw little market reaction.
The Chancellor announced £16.7bn worth of specific infrastructure spending over the coming four financial years and an ongoing commitment thereafter. This totalled £24bn in infrastructure spending over the next five years, 1.2% of GDP.
While this falls short of Trumpian-scale stimulus, it was a noteworthy commitment.
The Chancellor also found scope to support key constituencies. Freezes in fuel duty, adjustments to Universal Credit and an increase in the National Living Wage were designed to help ‘jam’ households. The promise of another savings bond with an above 2% interest rate was aimed at appeasing older savers. But this ‘largesse’ was funded by changes in tax measures (a 2% point increase in insurance tax premium; an alignment of employer (increase), employee National Insurance Contribution rates, the removal of certain in-work benefits and additional anti-evasion measures.
Today’s Autumn Statement was the first fiscal update from March and included the thwarted changes to welfare and disability payments from that Budget, but also the impact of the Brexit referendum on the OBR’s forecasts. The public finances outlook deteriorated markedly. The cumulative deficit is now seen £122bn worse over the coming five years.
The UK’s debt level is now expected to be 10% points higher at 84.8% in 2020-21, having peaked at over 90%.
Admittedly, this reflected changes to expected asset sales, technical adjustments associated with Bank of England (BoE) operations and classification changes. But the shift was eye-catching.
The deterioration of the deficit has also impacted the outlook for gilt sales. The cash deficit rose by £23.6bn relative to March’s forecast and has resulted in an additional £15bn of gilt sales scheduled for this year. Thereafter the DMO funding requirement projections have risen by a further £92bn over the subsequent four years and would keep gilt sales around £120-125bn over the period.
The worsening in the finances occurred against a very benign set of growth forecasts. The Office for Budget Responsibility (OBR) did lower its growth projections relative to March, but a short-lived dip in expected GDP growth below 2% to 1.4% next year and 1.7% in 2018 before accelerating back above 2% again is a more upbeat forecast than the BoE, consensus or ourselves could muster. The upbeat assessment is underpinned by an acceleration and stability in the global outlook. And accompanied by an assumption of an acceleration in trend growth from recent years to average around 2.0% from 2016-2021. This is again above our own projections and the BoE projects potential growth of around 1.6% for the coming years.
Assumptions of monetary policy (one hike before the end of the Parliament), sterling stable around £0.90 to the euro and longer-term market rates (rising only around 70bps over the coming five years) should also have flattered the finances.
Acknowledging the deterioration in the finances, the Chancellor reiterated his and Prime Minister May’s intention to balance the books – albeit not on the previous timescale. Accordingly, the Chancellor announced three new fiscal mandates: to balance the cyclically-adjusted measure in the next Parliament but reduce it below 2% of GDP by 2020-21; to see debt falling (as a proportion of GDP) by 2020-21; and to keep (broadly in-work welfare) within a ‘cap’ by 2020-21.
While the last is somewhat more specific, the Chancellor’s new framework appears more of an intention than a “rule”. No doubt successive Chancellor’s failure to meet 10 of the last 12 rules had some influence in this.
Our concern is that the Chancellor was presented with a relatively benign first test. Our own forecasts are for GDP growth to be slower, tax receipts to be lower, market rates to be higher and debt interest payments to be less forgiving. If our more pessimistic forecasts materialise, Chancellor Hammond may follow Chancellor Osborne down the well-worn path of deficit projection deterioration and an ongoing need to further tighten the public purse.
With many of today’s measures trailed ahead of the event and few surprises, market reaction was muted. Admittedly 10-year and 30-year gilt yields rose 5bps and 2bps to 1.45% and 2.08% respectively. However, we attribute this more to broader market moves that saw US 10-year and 30-year government yields rise by 6bps and 5bps to 2.37% and 3.05% respectively and likely reflected in the first instance very strong US durable goods orders. However, sterling managed a better performance, rising both against the euro and the dollar.
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