The grim reality behind the pre-budget headline grabbing

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Working at the Treasury just now must be like living through an episode of Blackadder. Only far less amusing.

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"You were fabulous, Darling," may well have been Gordon Brown's response after the new Chancellor delivered the Prime Minister's script almost word-perfectly.

Given the tight confines he was given to work with, Alistair Darling managed to produce some creative headline-grabbers - with a little help from the Tories, of course.

Of course, all the grand gestures in the world can't distract from the fact that Britain's finances are in a shocking mess - but we'll come to that in a moment

Let's get the main headline-grabber out of the way first. Mr Darling raised the inheritance tax threshold for married couples, those in civil partnerships, and widows and widowers to £600,000.

Let's not beat about the bush - this is a good thing. It doesn't make a jot of difference to those who are well-organised enough to have mapped their affairs out already. Each of us has a £300,000 IHT allowance, and you can pass on any amount of assets to your spouse tax-free when you die. So you simply arrange your wills so that when the first partner dies, they give £300,000 to their heirs, and the rest to their partner, and when the second partner dies, a further £300,000 is passed on tax-free, making £600,000 in total.

But of course, that assumes that you've got £300,000 in liquid assets to pass on - which is a problem if all your wealth is basically tied up in your house. So by making the couple's allowance £600,000, it tidies things up and also removes some of the injustice of children having to sell the family home because their parents just haven't been quiteorganised enough to be able to take advantage of both allowances.

And it means that widows and widowers no longer have to mess about with expensive deeds of variation (which allow you to change a will posthumously to take advantage of individual IHT allowances). Bad news for lawyers perhaps - but I can't imagine that many voters will be getting their violins out for that particular section of the population.

Of course, IHT is still a bad tax (regardless of your ideological position, it's a ridiculously inefficient way to raise money, which is something I'll try to expand on in a future Money Morning). But now it's not quite as bad as it was.

Then there was the move to change capital gains tax to an 18% flat rate. For small investors it means that if you sell an asset, such as an investment property or a portfolio of shares, you'll now pay just 18% CGT instead of 24% or 40% if you go over your CGT allowance (currently £9,200).

Sounds good - but it's no giveaway - in fact, it'll raise £900m net for the Treasury. That's because small business people and private equity bosses will no longer get taper relief on business assets, which previously meant that they'd have only incurred a CGT charge of 10% as long theyd held the asset for at least two years.

This also includes people who own holiday lets (rather than long-term rental properties). So the CGT cut is good news for those with buy-to-let portfolios - though we may see a flood of BTL properties being sold off in spring next year, when the new rules take effect. But in the meantime, there may also be a rush to offload holiday lets - estate agents in seaside towns may well see their windows fill up in the next few months.

So those were the headline grabbers. But behind all this lay the fact that, despite the darkening prospects for the UK economy, the government is still living well beyond its means. The government expects tax revenue to fall by £6.5bn next year. But rather than cut spending or raise taxes, it plans to "borrow itself out of the hole," as Edmund Conway puts it in The Telegraph.

As we should have learned from Northern Rock and the US subprime crisis, overstretching yourself is a recipe for disaster. But it seems that the government and the country will have to learn the hard way.

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Turning to the wider markets

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In London, the FTSE 100 broke through the 6,600 barrier yesterday - adding 74 points to end the day at 6,615 - thanks to good gains for a resurgent Northern Rock and strength amongst brewers and utilities. News that the Bank of England is to extend its guarantee to all Northern Rock deposits saw the mortgage bank add nearly 20%. For a full market report, see: London market close.

Elsewhere in Europe, the Paris CAC-40 was up 32 points to 5,861 as media and energy stocks performed well. Over in Frankfurt, the DAX-30 was up just 6 points to close at 7,980 following a subdued session.

Across the Atlantic, stocks surged as the FOMC's latest commentary raised hopes of another US rate cut in the near future. The Dow Jones hit a new all-time high of 14,167 in intra-day trade and closed at 14,164, an overall gain of 120 points. The tech-rich Nasdaq added 16 points to end the session at 2,803, a 16-point gain. And the broader S&P 500 was up 12 points at 1,565.

In Asia, there were moderate gains for shares today. The Japanese Nikkei was up 18 points, at 17,177. And the Hang Seng was up by as much as 283 to 28,511 in afternoon trade.

Crude oil rose over a dollar in New York yesterday on concerns about heating-oil supplies and was trading at $80.31 today. And in London, Brent spot was at $77.85.

Spot gold continued to rise this morning as the dollar weakened and was last quoted at $740.80, up from $736.60. Silver had risen to $13.50.

Turning to the forex markets, the pound had risen to 2.0432 against the dollar and was at 1.4455 against the euro. And the dollar was at 0.7071 against the euro and 117.22 against the Japanese yen.

And in London this morning, confectionary stock Cadbury announced plans to demerge its US soft drinks unit and list it in New York. Earlier in the year, a sale of the unit - which includes brands such as 7UP and Dr. Pepper - to a private equity group had been on the cards but the recent crisis in the credit markets had delayed the sale. Cadbury's shares had risen by as much as 2.2% in early trade.

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