Osborne plans to deliver his surplus on the back of rising household debt

George Osborne delivered his Autumn Statement today (in winter!), setting out the outlook for the economy over the next 5 years. He is quite a ‘clever’ politician, so you don’t really learn a lot from listening to his speech as he changes definitions and context so best to suit his narrative. The figures he quotes though are produced by the OBR, which you can download for yourself here.

I’m not going to say anything about his speech, but rather focus on the ‘quest for a budget surplus’ as I’ve decided to call it. All parties seem to be on this quest, so I thought it might be worth setting out what assumptions need to be made in order to get us to a surplus by 2019. To do this, I’m using the OBR’s forecasts for the UK economy’s ‘Financial Balances by Sector’ found in table 1.10 from the spreadsheet Economic and fiscal outlook supplementary economy tables – December 2014.

Although people do so all the time, it’s not really possible to discuss the government’s deficit in isolation, because there is an accounting identity which means the government’s deficit (or surplus) is equal to the non-government’s surplus (or deficit). You can disaggregate ‘non-government’ in a number of ways, but the OBR break it down into ‘households’, the ‘corporate’ sector and ‘rest of world’ (which to simplify, we can think of as the trade balance).

Here are the figures the OBR put out today put into a chart. The bars up to 2013/14 are actual data, and the bars beyond are their forecasts for the next 6 years. The green bar is the government’s budget balance. You can see that in 2009/10, the deficit was over 10% of GDP, and the OBR forecast it will be eliminated by 2018/19 when there will be a small surplus.

How will we get there though? In the year just gone (2013/14), the government’s deficit came in at 5.6%. The non-government balance was comprised of a 0.1% household ‘deficit’, a 0.9% corporate ‘surplus’ and a trade deficit of 4.4% (this should sum to 5.6% but doesn’t because, as the OBR explain, there is a ‘residual error’ – this case 0.4%). The chart above shows the green bar shrinking over the years, but what is changing in the other sectors at the same time?

At the moment we have a rather large trade deficit of almost 5% of GDP. The OBR are forecasting this will be cut in half over the next 5 years. Is this likely? They are also forecasting world GDP growth to slow down over the next few years, so the prospect for UK exports may not be that rosy.

The blue bar on the chart is increasing quite significantly out to 2019/20. This is the household balance, and it is forecast to be in deficit going forward. That means the OBR expect households to spend more than they earn (in aggregate) year on year. How likely is this to come about? To give some context, we can look at what the household sector’s balance was in previous years to see how feasible an outcome of a 3% household deficit might be. The figures going back to 1997 are contained in this post on Neil Wilson’s blog. Neil’s second chart shows that in the run up to the financial crisis (from about 2004 onwards), households ran a small deficit of between 0% and 2%. This contributed (partly) to the biggest crash in over half a century, but for the OBR’s forecasts to work out households would have to run deficits about double (or more) this level year after year. Is this even possible without causing another recession before we get to 2020? I don’t see how it is. This chart from the OBR’s full report also shows the full picture since 2000 clearly. The required rise in household debt is unprecedented in recent times.

The ‘quest’ seems like pie in the sky stuff to me, and dangerous stuff at that. When it became clear Osborne would miss his targets after 2010, he eased up. Hopefully, whoever wins next year, will quickly realise what a fools errand the quest is and do the same. Pumping up household debt to dangerous level is not a sustainable longtermeconomicplan!