The Pre-Budget Report (PBR) did it all really. North Sea oil tax raised here, a re-jigging of the economic cycle there and a promise to pull up the floor boards to examine public spending postponed until 2007, the Chancellor sits comfortably with a £16bn cushion against any breach of his self-imposed "Golden Rule".
BUT! This is no time for complacency either. For three years the budget deficit has run above 3% of Gross Domestic product (GDP) and no scope exists for fiscal largess. On balance, Mr Brown may well opt for a mildly restrictive Budget in an attempt to ensure longer-term fiscal stability, whilst lobbing some additional spending at key departments, paid for by further stealthy adjustments to the tax burdenbut he doesn't have to if he doesn't want to!
"Look Back In Anger"
Back in 2005 the Budget arithmetic was based upon a GDP forecast of 3% growth in 2005/06. Last autumn's PBR acknowledge what everybody already knew and lowered the estimate to 1.75%. The PBR included some small tax and spending changes for 2005/06 but largely due to the GDP shortfall the Public Sector Net Borrowing (PSNB) projection was raised by £5bn. From 2006/07 the £2bn increase in North Sea oil tax amounts to a pretty significant hike on its own.
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Despite these tweaks, the PBR raised the Public Sector Net Borrowing (PSNB) projection, compared with the 2005 Budget by an aggregate £21.5bn over a five year period. The higher PSNB profile and a correspondingly weaker forecast for the surplus on the current Budget did not, in the event, amount to the obvious conclusion a re-assessment of the economic cycle, which was extended to twelve years (1997/98 2008/09) and enabled the Chancellor to meet the "Golden Rule" with an even larger margin than that forecast in the last Budget (£16bn V's £6bn forecast).
More recent fiscal data has not altered the picture, or the conclusion that, if he so wishes, Mr Brown need not tighten fiscal policy if he so wishes. Equally, however, with the deficit running in excess of 3% of GDP, there's no room for laxity.
Debt Management Office (DMO)
The gilt-edged market is, however, likely to pay attention to the DMO's funding remit. The PBR update projected a Central Government Net Cash Requirement (CGNCR) of £40bn for 2006/07, £6bn higher than the Budget estimate. Given that about £30bn of gilt-edged is coming up for redemption, this produced a total financing requirement of £70bn.
Around £4bn is expected to be met from national savings and it is possible that 2005/06 might have been over-funded. However, the DMO may take the strategic decision not to offset this. A £40bn CGNCR points to total gilt-edged sales of around £66bn £68bn.
The gilt-edged market is looking for the bulk of this issuance to take place at the long end of the conventional and index linked yield curves, judging by recent market action. The markets might also watch to see whether the DMO builds in any flexibility to its funding programme, or whether, as in the past, the fiscal year gilt-edged requirement is fully allocated in advance.
Budget 2006 - don't hold your breath
The March 2005 Budget proved controversial for its optimistic GDP growth forecast and, by extension, its forecasts for the public finances. The Pre-Budget Report (PBR) corrected this. The 2006/07 output growth assumption is close to what most economist expect at 2.25% (2007/08 is on the high side at 3.0%).
Forecasts for Public Sector Net Borrowing in 2005/06 and 2006/07 look optimistic but not massively so, relying as they do on a modest further increase in the tax burden which the PBR measures and the inevitable fiscal drag should deliver.
As ever the key micro issue is the extent to which spending growth can be kept to 5.5% and whether the hoped for public sector efficiencies can be achieved. All in all the March 2006 Budget looks like a dull affair.
As pre-announced in the PBR, most income tax allowances and NI thresholds and limits will be raised in line with inflation (e.g. personal income tax allowance from £4,895 to £5,035, +2.9%); with the exception of the child element of the Child Tax Credit, which rises in line with earnings, working and child tax credit rates rise with RPI inflation (2.7% in Sept 2005); income tax starting rate and basic rate limits, which were not pre-announced, are likely to be indexed.
Excise duties are also likely to rise in line with inflation; the obvious exception might be fuel duties which have not changed since October 2003; non-indexation of fuel duty costs the Exchequer about £500m-£600m in a full year (though the public finances benefit from a higher price for oil through North Sea oil receipts and from VAT on petrol).
No changes are expected to the main rates of personal and corporate income tax, VAT, IHT or stamp duty.
Politics
Bear in mind where we are in the political cycle. Gordon Brown is likely, once again, to have his eye firmly fixed on the big prize. So saying, this could be his last (or penultimate) Budget speech. Given this one might expect Mr Brown to err on the side of caution; a tax raising Budget now, to provide some leeway for munificence ahead of his elevation.
Look out too for extra spending on key agenda items such as productivity, R&D and poverty reduction. If these factors are steering the Chancellor's thinking at present observers should watch out for measures intended to add to tax revenues. Stealth wouldn't seem out of the question, neither would fiscal drag, but doubling the 1% point additional NI rate yields in excess of £1bn a year.
By Jeremy Batstone, Director of Private Client Research at Charles Stanley
