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Pre-Budget Report
B.01 This Appendix first looks briefly at the current fiscal position. How large are budget deficits and debt burdens by past standards, and how do they stand in relation to the fiscal objectives set out in the July Budget and the Maastricht criteria? The section then considers the prospects for achieving these objectives, given the policies so far announced and the view of the economy outlined in Appendix A(1).
B.02 The PSBR has turned out lower than expected in the past few months since the Budget; but this seems mostly to reflect temporary factors, and the fiscal projections (summarised in Table B1) are generally little changed since the July Budget:
budget deficits are likely to continue to fall this year and next, as the Government fulfils its Manifesto commitment to keep public spending within the limits it inherited for the first two years, and tax revenues rise in response to economic growth, the Budget measures and the annual real rises in fuel and tobacco duties;
the general government financial deficit is expected to be comfortably below the 3 per cent Maastricht reference level, both for 1997-98 and calendar 1997;
the current balance is likely to be in deficit this year, but is projected to move into surplus in 1998-99;
even though privatisation proceeds are assumed to come to an end after the current year, the PSBR is projected to fall below 1 per cent of GDP by 1998-99 (even excluding windfall tax receipts).
| £ billion | |||||
| Outturn | Estimate | Forecast | |||
| 1996-97 | 1997-98 | 1998-99 | |||
| Receipts(1) | 286.8 | 308.2 | 326.3 | ||
| Current expenditure(2) | 306.0 | 312.0 |
322.3 |
||
| Current balance | -19.1 | -3.7 | 4.0 | ||
| Current balance excluding windfall tax(3) | -19.1 | -6.1 |
2.6 |
||
| Net capital spending(4) | 8.4 | 8.3 |
8.7 |
||
| Public sector financial deficit | 27.5 | 12.0 |
4.7 |
||
|
Privatisation proceeds and other financial transactions |
4.9 | 2.5 |
0.2 |
||
| PSBR | 22.6 | 9.5 | 4.5 | ||
| PSBR excluding windfall tax(3) | 22.6 | 11.9 |
6.0 |
||
| General government financial deficit(5) | |||||
| - £ billion | 30.1 | 11.8 | 3.6 | ||
| - per cent of GDP(5) | 4.0 | 1.5 |
0.4 |
||
| Money GDP - £ billion | 752.2 | 800.1 |
836.9 |
||
B.03 Because spending plans have not yet been set, illustrative projections are shown for years beyond 1998-99. On the July Budget assumptions that real public spending grows at or below the assumed trend rate of economic growth of 2 ¼ per cent a year, the public finances are projected to continue to improve. The current surplus grows, and the overall budget also moves into surplus from 2000-01. The debt burden declines and the public sector's balance sheet gradually improves.
The PSBR
B.04 The PSBR peaked at more than 7 per cent of GDP in 1993-94 - the highest level since the mid-1970s. Over the past four years it has been falling, partly because of tax increases and public expenditure restraint and partly because the economy has been growing faster than trend. The outturn for 1996-97 was £22 ½ billion, or 3 per cent of GDP, and a further sharp fall, to £9 ½ billion or 1 ¼ per cent of GDP, is now forecast for 1997-98. This is about £1 ½ billion lower than the Budget forecast.
B.05 The forecast for 1997-98 includes the £2.6 billion of receipts from the windfall tax and £0.2 billion of Welfare to Work spending. Without these receipts and spending, the PSBR would be about £12 billion, or 1 ½ per cent of GDP. To give a clearer indication of trends, projections for budget deficits in this chapter generally exclude windfall tax receipts and associated spending. Figures both including and excluding these items are given in Table B1.
Cyclically-adjusted PSBR
B.06 The cyclically-adjusted, or "structural", PSBR tended to rise throughout the 1980s and early 1990s, peaking in 1993-94 at almost 4 per cent of GDP. It fell to 2per cent of GDP by 1996-97, and is forecast to fall further to 1 ¼ per cent in 1997-98 (i.e. similar to the actual PSBR now that the economy is close to its estimated trend).
Chart B1: Public sector borrowing requirement
The Maastricht deficit
B.07 The general government financial deficit (GGFD) - the Maastricht measure - has tended to be larger than the PSBR because it does not take credit for privatisation proceeds. It was 4per cent of GDP in 1996-97, and is forecast to fall to 1 ½ per cent of GDP in 1997-98 (1 ¾ per cent of GDP in calendar year 1997, compared with the Maastricht reference level of 3 per cent). The fall is greater than for the PSBR because GGFD is not affected by the drop in privatisation proceeds. (The Maastricht definition used here does not exclude windfall tax receipts.)
The current balance
B.08 The current balance has been in substantial deficit for most of the period since the mid-1970s, the deficit averaging over 1 ½ per cent of GDP over the last economic cycle (1985-86 to 1996-97). It has improved less than the PSBR or GGFD over the past four years, as public investment has fallen as a percentage of GDP. The current deficit was 2 ½ per cent of GDP in 1996-97, but is forecast to fall to just ¾ per cent of GDP in 1997-98.
Chart B2: GGFD and current deficit
Public sector debt and net wealth
B.09 Between 1970 and 1991, net public sector debt declined, despite the generally high levels of government borrowing, from about three quarters to just over a quarter of GDP, mainly because of inflation. After 1991 it rose sharply again, to 45 per cent of GDP in March 1997, as borrowing rose and inflation fell. General government gross debt, the Maastricht measure, has risen similarly. In March 1997, it was 54 ¼ per cent of GDP, compared with a Maastricht reference level of 60 per cent. On current ONS estimates public sector net wealth has fallen sharply from about 70 per cent of GDP in the 1980s to less than 10 per cent by 1996. This is partly because of rising debt, and partly because privatisations and historically low levels of public investment have reduced the stock of government assets.
Chart B3: Public debt and net wealth
B.10 The projections assume:
| Percentage change on previous financial year | ||||||
| 1997-98 | 1998-99 | 1999-00 | 2000-01 | 2001-02 |
2002-03 |
|
| Output (GDP) | 3 ½ | 1 ¾ | 1 ¾ | 2 ¼ | 2 ¼ | 2 ¼ |
| Prices | ||||||
| RPI excluding MIPs | 2 ¾ | 3 | 2 ½ | 2 ½ | 2 ½ | 2 ½ |
| GDP deflator | 2 ¾ | 2 ¾ | 2 ½ | 2 ½ | 2 ½ |
2 ½ |
| Money GDP (£ billion) | 800 | 837 | 873 | 915 | 960 |
1,006 |
B.11 The assumptions on "Spend to Save", privatisation, unemployment, output and interest rates are those introduced for the July Budget projections and audited by the National Audit Office (NAO). Unemployment is assumed flat at its October level and interest rates are projected in line with market expectations.
B.12 To build on the audit of the new assumptions for the July Budget projections, the Comptroller and Auditor General, Head of the NAO, was invited to audit four additional assumptions used in the current forecast: for equity and oil prices, the main price indices used for projecting and planning public expenditure, and VAT receipts in relation to consumers' expenditure. His report to the House of Commons was published on 25November.(2)
B.13 The forecast incorporates the effects of the July Budget measures, which in aggregate increase receipts by about ¾ per cent of GDP in 1997-98 and subsequent years. No account is taken of tax proposals in this Pre-Budget Report.
B.14 After 1997-98, total receipts are projected to rise as a share of GDP by ¼ per cent per year on average. This wholly reflects the effects of real fiscal drag on income tax and the real increases in fuel and tobacco duty. All other taxes are projected to yield a fairly constant proportion of GDP in the medium term. However, non-tax receipts (such as interest and dividends) are projected to fall over time as a share of GDP, in part reflecting the contraction of the public corporations' sector.
B.15 VAT receipts are especially hard to predict. The joint Treasury/Customs VAT study, published in September, found that, after allowing for the effects of Budget measures, the ratio of VAT receipts to consumer spending declined steadily between the late 1980s and 1995-96. However, the VAT ratio has stabilised over the last couple of years, and it is thus extremely uncertain whether the ratio will remain flat in future, continue to fall, or even possibly start to recover. The projections assume a modest downward trend in the VAT ratio - an assumption which the NAO has endorsed as `reasonable'. This reduces receipts by £1 ½ billion by 2002-03, compared both with a flat VAT ratio and the Budget projections (which also assumed a flat ratio).
B.16 Tax receipts are projected to be marginally weaker than at Budget time, by around £ ½ -1 billion this year and next, rising to about £2 ½ billion ( ¼ per cent of GDP) by the end of the period. The shortfall in 1997-98 mostly reflects lower receipts of income tax and excise duties. In addition, GDP growth in 1998-99 and 1999-2000 is now assumed to be slightly less than at Budget time, which tends to lower the growth of tax receipts.
| per cent of GDP | |||||||
| Outturn | Estimate | Projections | |||||
| 1996-97 | 1997-98 | 1998-99 | 1999-00 | 2000-01 | 2001-02 |
2002-03 |
|
| Income tax | 9.2 | 9.4 | 9.9 | 10.2 | 10.4 | 10.5 | 10.7 |
| Corporation tax | 3.7 | 3.8 | 3.8 | 3.9 | 4.0 | 4.1 | 4.0 |
| Windfall tax | 0.3 | 0.3 | |||||
| Value added tax | 6.2 | 6.3 | 6.3 | 6.2 | 6.2 | 6.2 | 6.1 |
| Excise duties(1) | 4.1 | 4.1 | 4.2 | 4.3 | 4.4 | 4.5 | 4.6 |
| Other taxes and royalties(2) | 6.6 | 6.4 | 6.4 | 6.4 | 6.5 | 6.5 | 6.4 |
| Social security contributions | 6.3 | 6.2 | 6.2 | 6.2 | 6.3 | 6.3 | 6.3 |
| Other receipts | 1.8 | 2.0 | 2.0 | 1.8 | 1.7 | 1.5 |
1.6 |
| Total receipts | 37.9 | 38.5 | 39.1 | 39.0 | 39.5 | 39.6 |
39.8 |
|
Total taxes and social security contributions(3) |
35.8 | 36.7 | 37.2 | 37.4 | 37.9 | 38.2 |
38.3 |
| Total receipts (£bn) | 285.4 | 308.4 | 327.4 | 340.8 | 361.3 | 380.1 |
400.8 |
B.17 Chart B4 shows the tax burden - total accruals of taxes and social security contributions as a percentage of GDP - since the 1970s. The tax burden tends to behave procyclically, rising (with a lag) when the economy is growing above trend and falling (with a lag) during economic slowdowns. (This is obscured in the chart by the effects of Budget measures, especially the tax reductions in the second half of the 1980s and the increases in the early 1990s.) There is also an underlying upward trend, reflecting real fiscal drag.
B.18 The projected increase of nearly 1 percentage point in the tax burden this year is mostly accounted for by the July Budget measures including windfall tax. The underlying tax burden rises by about 0.2 percentage points, in line with the normal expectation. The increase in the tax burden is expected to be somewhat greater than normal in 1998-99, mostly reflecting the effects of past Budgets (especially the "Spend to Save" measures). Thereafter, the tax burden is projected to rise roughly at its usual annual rate.
B.19 Table B4 shows the 1996-97 outturn and forecasts for 1997-98 and 1998-99 for general government expenditure and its main components.
| £ billion | |||
| Outturn | Estimate | Forecast | |
| 1996-97 | 1997-98 |
1998-99 |
|
| Control Total | 259.9 | 265.8 | 273.5 |
| Welfare to Work spending | 0.2 | 1.2 | |
| LA spending under the capital receipts initiative | 0.2 | 0.7 | |
| Cyclical social security | 14.0 | 12.7 | 13.5 |
| Central government debt interest | 22.0 | 24.6 | 25.0 |
| Accounting adjustments | 11.5 | 11.1 |
11.5 |
| GGE(X)(2) | 307.3 | 314.6 | 325.4 |
| Privatisation proceeds | -4.4 | -2.0 | 0.0 |
| Other adjustments | 5.2 | 6.1 |
6.6 |
| GGE | 308.1 | 318.7 |
332.1 |
B.20 The outturn for Control Total spending in 1996-97 of £259.9 billion, or 34 ½ per cent of GDP, represents a small cash overspend of £0.4 billion on plans, but a fall in real terms of ¾ per cent on 1995-96.
B.21 For 1997-98, the Control Total spending plans imply a fall of ½ per cent in real terms, or by 1 ¼ percentage points to 33 ¼ per cent of GDP. However, the fall is exaggerated by two special factors (the sale of the MOD married quarters and the student loan book) which score as negative expenditure. After adjusting for asset sales, spending is unchanged in real terms.
B.22 Spending plans over the medium term (1999-2000 onwards) will be set only after the Comprehensive Spending Review has been completed. As in the July Budget, stylised projections for public spending are based on three illustrative assumptions for spending growth:
A) real growth in the Control Total of ¾ per cent a year from 1999-2000 onwards (the real growth assumed from 2000-01 in the 1996 Budget);
B) real growth in the Control Total of 1 ½ per cent a year - roughly the average over the past 20 years;
C) real growth in the Control Total of 2 ¼ per cent a year, the same as the estimated trend rate of economic growth.
| per cent of GDP | |||||||
| Outturn | Estimate | Projections | |||||
| 1996-97 | 1997-98 | 1998-99 | 1999-00 | 2000-01 | 2001-02 | 2002-03 | |
| (A) ¾ per cent real CT growth | |||||||
| Control Total | 34.5 | 33.2 | 32.7 | 32.4 | 31.9 | 31.4 | 30.9 |
| Cyclical social security | 1.9 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 |
| Central government debt interest | 2.9 | 3.1 | 3.0 | 2.7 | 2.5 | 2.3 | 2.0 |
| GGE(X)(2) | 40.9 | 39.3 | 38.9 | 38.3 | 37.6 | 36.8 | 36.0 |
| (B) 1 ½ per cent real CT growth | |||||||
| Control Total | 34.5 | 33.2 | 32.7 | 32.6 | 32.4 | 32.1 | 31.9 |
| Cyclical social security | 1.9 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 |
| Central government debt interest | 2.9 | 3.1 | 3.0 | 2.8 | 2.6 | 2.4 | 2.1 |
| GGE(X)(2) | 40.9 | 39.3 | 38.9 | 38.5 | 38.1 | 37.6 | 37.1 |
| (C) 2 ¼ per cent real CT growth | |||||||
| Control Total | 34.5 | 33.2 | 32.7 | 32.9 | 32.9 | 32.8 | 32.8 |
| Cyclical social security | 1.9 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 | 1.6 |
| Central government debt interest | 2.9 | 3.1 | 3.0 | 2.8 | 2.6 | 2.4 | 2.3 |
| GGE(X)(2) | 40.9 | 39.3 | 38.9 | 38.8 | 38.6 | 38.4 | 38.2 |
B.23 Reflecting high public sector borrowing, central government net debt interest, as a ratio to GDP, has risen by almost 1 per cent during the 1990s - to £22.0 billion, almost 3 per cent of GDP, in 1996-97. It is projected to peak at £25.0billion in 1998-99, and fall thereafter to 2-2 ¼ per cent of GDP by 2002--03, reflecting a projected repayment of debt over the medium term.
B.24 With unemployment declining, spending on cyclical social security has been falling over the past three years, and is forecast to fall in real terms by a further 11 ½ per cent in 1997-98. On the assumption that claimant unemployment remains flat at its October level, cyclical social security spending is projected to grow in real terms at approximately 2 ¾ per cent per year from 1998-99 onwards, as underlying spending on the non-unemployed continues to rise.
B.25 The GGE(X) ratio fell by 1 ¼ percentage points of GDP in 1996-97 to 40 ¾ per cent, and is projected to fall by a further 2 percentage points over the next two years. Over the medium term, the GGE(X) ratio continues to fall in all three cases.
Chart B5: Projections of general government expenditure - GGE(X)
(1) More detail on the outturn for 1996-97 and the forecasts for 1997-98 and 1998-99 is given in "The Economy and the Public Finances: Supplementary Material", available from the Treasury's Public Enquiry Unit (see page 4 for contact details).
(2) Audit of Assumptions for the Pre-Budget Report, HC 361.
