Johnson’s Post-Brexit Spending Spree to End Era of Austerity
(Bloomberg Businessweek) -- U.K. Prime Minister Boris Johnson led his Conservative Party to its biggest victory in a national election since the days of Margaret Thatcher by persuading voters in former industrial heartlands to vote Tory for the first time. Johnson promised to “get Brexit done” after years of political gridlock and duly delivered on Jan. 31, when Britain formally left the European Union. But if he is to retain support in some of the poorest parts of the country, he must now address the grievances of those who feel economically marginalized.
As the face of the 2016 campaign to leave the EU, Johnson skillfully harnessed anger over almost a decade of cuts to public services and the erosion of living standards to build support for Brexit. Now he’s promised to “level up” struggling regions, leaving no doubt that Britain is about to open the spending taps. The only question is how much. The answer will be contained in the boxy red briefcase that the finance minister, Rishi Sunak, will carry into Parliament on March 11, when he presents the administration’s first budget. (The so-called red box ritual dates to the 1860s.)
A power struggle over who should control the economy—Johnson or the Treasury—saw Sunak’s predecessor, Sajid Javid, resign on Feb. 13. The appointment of Sunak, a young politician who owes his meteoric rise to the new prime minister, has fueled speculation that the boost in spending for the fiscal year that begins in April could be even greater than the more than £30 billion ($39 billion) Javid had pledged.
Either way, Britain is headed for the biggest fiscal stimulus since the early 2000s, when the Labour Party was in power. The expectation is that the U.K.’s budget deficit is set to increase significantly from the £44 billion or so estimated for the current fiscal year. Investors appear sanguine about the prospect, with yields on government bonds close to record lows.
For now, Johnson is basking in what’s being called the “Boris bounce.” His election win removed the crippling uncertainty over Brexit, buoying confidence among businesses and consumers. London home prices are growing at their fastest pace in more than two years. Both S&P Global Ratings and Fitch Ratings upgraded their U.K. assessment after the election.
If Johnson gets it right, the budget could buttress the economy at a challenging time, as the spreading coronavirus roils global markets and Britain begins the enormous task of negotiating a trade deal with the EU. If talks fail, the country will once again face a disruptive rupture with its largest trading partner.
Politically, the budget could also help bolster Johnson’s power. It’s early days, but he has a huge 80-seat majority in the House of Commons, and Labour is still reeling from its worst election result since 1935.
The Conservatives inherited a budget deficit equal to 10% of gross domestic product, the highest in British peacetime, when they took office in 2010 in the aftermath of the financial crisis. The shortfall is now just under 2%. But the squeeze—amounting to more than £100 billion of spending cuts and tax increases over the course of a decade—has been brutal. The National Health Service and education were protected, but few other areas of society escaped the ax. Deep cuts were made to welfare and social care. A debate over the links between rising knife crime and cutbacks to funding for policing and community centers rages on.
The impact of austerity was back in the spotlight in late February when a nonpartisan study found that life expectancy in England stalled over the past decade for the first time in more than a century and is in outright decline among women in the poorest regions, such as North East England. Its author, Michael Marmot, who heads the Institute of Health Equity at University College London, blames spending cuts that have left many resorting to food handouts and insecure, low-paid work. “If health has stopped improving, it is a sign that society has stopped improving,” he says.
Johnson’s budget is expected to target areas such as the North East and the Midlands with billions of pounds for infrastructure, on top of money already pledged for public services such as schools, hospitals, and policing. Javid committed himself to balancing day-to-day spending and revenue but gave himself room to spend an extra £20 billion on capital projects including railways, roads, and broadband networks. As those fiscal rules were election commitments rather than law, Sunak could easily relax them if he wants to increase spending further or cut taxes. The timing for a fiscal stimulus is propitious: The cost of borrowing for investment has never been cheaper, with yields on 30-year U.K. bonds now below 1%.
Johnson inevitably invites comparisons with Donald Trump. Both rode waves of popular discontent and they stand outside the fiscally conservative traditions of their own parties. The fiscal boost being prepared in the U.K. could exceed that in the U.S. in 2018, which the International Monetary Fund estimates at around 1.3% of GDP.
But there are key differences. The Trump stimulus cut taxes more than it increased spending, and the effect was immediate but short-lived. Officials had hoped businesses would use their tax savings to increase investment, but so far this hasn’t been the case. That may be due partly to uncertainty created by Trump’s trade wars, as White House Chief Economist Tomas Philipson recently acknowledged.
Johnson’s budget, with its emphasis on capital spending, may take longer to feed through. Infrastructure projects take time to come onstream, and some proposals could fall by the wayside. However, investment ultimately delivers a greater economic impact than tax cuts, not least because wealthier individuals often save rather than spend their tax windfalls. Infrastructure spending can also eliminate bottlenecks and elevate the growth potential of an economy in a more lasting way.
“The debate around fiscal policy in the U.K. was turned on its head in the recent election,” says Dan Hanson of Bloomberg Economics. “A discretionary loosening of about 1.5% GDP in the coming fiscal year, which is possible if the government manages to find enough shovel-ready investment projects, would have been unthinkable under recent Conservative administrations. And with Sunak rumored to be considering ditching the fiscal rules he inherited from his predecessor, the giveaway could be larger still.”
The end of austerity in Britain comes amid a global debate over the role of fiscal policy. A decade of crisis-fighting has left central banks depleted, and they’ve been pleading with politicians to use whatever resources they have to pump money into their economies. The call has so far fallen on deaf ears in Germany, whose devotion to budget rectitude is unparalleled in Europe. France, on the other hand, has reaped clear benefits from loosening its purse strings. The tax cuts President Emmanuel Macron enacted to appease the antigovernment Yellow Vest protesters proved well-timed, stimulating the economy in 2019, as the manufacturing recession took hold in Europe. Growth still slowed, but France’s 1.2% was twice Germany’s rate.
Growth in Britain is expected to slow this year but rebound in 2021 and 2022, with robust government spending and investment. Johnson is hoping the momentum extends as far as the next general election in 2024, when voters will decide whether the new prime minister has lived up to his promises.
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