UK Budget 2010: Darling must think outside the box

With only weeks to go before the nation goes to the polls, the time-honoured task of a chancellor in his pre-election budget is to hand out a few goodies to favoured groups of voters and present a rosy picture of the government's economic achievements, while stressing that the nation's fortunes are safe in his hands.

Yet a strange air of unreality will hang over this week's performance at the dispatch box. Not only does Alistair Darling have little cash to spare, and few triumphs to trumpet – unless you count avoiding a full-blown economic depression over the past 12 months, a feat most of his counterparts around the world have also pulled off – but he has little incentive to let the public in on the whole truth about the era of austerity that lies in store whichever party wins the election.

Darling and George Osborne, the shadow chancellor, have repeatedly clashed about the precise timing of public spending cuts to bring the deficit under control. Lord Mandelson, the business secretary, told the Observer this weekend: "Above all, it's a matter of timing, and that is the principal division between ourselves and the Conservatives."

That debate is important because of the messages it sends about the parties' priorities – Labour investment versus Tory slash-and-burn, as Gordon Brown would like to paint it. There will probably be some targeted (ie cheap) new measures on unemployment and support for businesses on Wednesday to sharpen the dividing line.

But the grim truth is that even under the deficit-cutting plans laid down by the chancellor in last December's pre-budget report, there is a fearsome fiscal squeeze on the way. "We've been sidetracked into this argument about when, rather than what, to cut," says Vince Cable, the Liberal Democrat Treasury spokesman. "If the public are going to have an entrée into this debate, it's got to be about what to cut, and we have to be a bit more specific about that."

The furore in recent days about the reductions in university budgets has been a small foretaste of the social backlash that is likely to ensue over the coming years, as the Treasury swings back to its time-honoured role of stamping on the costly aspirations of other Whitehall departments. "People are not ready for this," Cable says. "The political classes haven't spelt out what's involved."

Mandelson disagrees: "I think the public realises we're entering a different climate for public spending, and after the colossal catch-up investment of the past decade, much of it will not need to be repeated."

What we don't yet know, though, is where the axe will fall. Darling has said there is still too much economic uncertainty to complete a full, department-by-department spending review; but he also knows that the more details he produces about how exactly he will achieve the promised £38bn-a-year spending cut, the more flak Labour will take.

Similarly, Osborne has hinted that he would say after the budget how the Conservatives would make savings; but few analysts expect there to be much detail until after the election.

Andrew Haldenby, director of Reform, one of the thinktanks that has been most vocal in calling for immediate, swingeing cuts in public spending, sees little sign that even the Conservatives, who have made battling the deficit the centrepiece of their critique of Labour's economic policies, grasp how tough it will be.

He cites several recent examples in which Tory frontbenchers have raised objections to government plans for squeezing spending: David Willetts has opposed the university cutbacks; Liam Fox has singled out reductions in defence training budgets; Chris Grayling has questioned the impact of reductions in police numbers.

"Both parties are saying 'We can do this through efficiency savings, without touching the frontline', but that's bananas," Haldenby says. In his view, an upfront, honest budget would set out exactly which departments will suffer. So it could mean increasing class sizes in schools, for example, and changing the terms and conditions of hundreds of thousands of public sector workers – hardly a vote-winning package.

The task ahead is immense: the Institute for Fiscal Studies estimated after the pre-budget report that Darling's plans implied a £76bn squeeze by 2017-18, much of which will still be to come even after the Treasury has achieved its target of halving the deficit within four years. As the IFS's Carl Emmerson put it, we face "two parliaments of pain".

Of course, the other part of the story of getting the public finances back into shape is about tax rises.

There are already several increases planned: the 50p top rate for those who earn £150,000 a year or more kicks in on 1 April; and a 1p rise in national insurance contributions (NICs) for both companies and employees – little different from a 1p rise in income tax – follows next year.

Osborne has said that he will tell the public before the general election whether he can afford to reverse the NICs rise immediately; but between them, the measures raise more than £10bn a year, which the Conservatives would have to find from elsewhere. Instead, most analysts believe that there's a strong chance that a Tory "emergency budget" in the summer would involve fresh tax increases – and if Labour scrapes a majority, its autumn pre-budget report could also include higher taxes.

Mandelson was accused of making a telling slip last week when he suggested to an audience at the British Chambers of Commerce that the forthcoming spending review would "allow us to judge much more carefully what we have to do … both in raising taxation, should that be necessary, or cutting expenditure".

He dismisses the idea that it was a gaffe: "We have set out very clearly the tax increases that we believe are just and fair. We don't have any further proposals for raising taxes, but no chancellor will bind his hands for the future. That's all I was saying."

Privately, though, Treasury officials admit they expect a rise in VAT, whoever wins. "We'll see tax rises we're not being told about, and we'll see spending cuts we're not being told about," says Danny Gabay of City consultancy Fathom.

This week, however, in the absence of much fresh detail about either tax or spending, attention is likely to focus on what Darling chooses to do with the "windfall" from lower unemployment and higher than expected revenue from the bankers' bonus tax, which has brought in about £1.5bn, close to three times the Treasury's original estimate.

The latest figures for the public finances show that the deficit for this year could fall short of the £178bn he was expecting by up to £12bn. But Treasury officials are quick to deny that the rosier picture means there is room for giveaways.

Cable says that the way the spare cash is allocated will be a critical test of Labour's resolve: "The big choice Darling has is: does he want to be a Roy Jenkins/Stafford Cripps chancellor, who tells it like it is and says 'There's a lot of pain and difficulty ahead'. Or is it just going to be 'Let's have silly little freebies', designed to placate particular interest groups or voters?"

City analysts say that is also what the markets will be watching. Gabay says: "That's the only thing I'm interested in: will he spend the money on a few lollipops, or will he bank it?" Graham Turner of GFC Economics agrees: "The issue of substance is: if you get a windfall, do you go out and spend it?" Any fresh spending could alarm the financial markets, he says – and that would damage the economy."You can't ignore the bond market. If you think the big underlying problem is still the banking system, you do not want higher gilt yields, because that increases funding costs for the banks."

At the same time as appearing frugal, Darling and his colleagues want to make clear that they have a plan for rebuilding Britain's economy. Although GDP expanded modestly in the final quarter of 2009, by 0.3%, marking the official end of recession, there are fears that the first three months of this year could mark a return to it – a "double dip".

The Treasury's forecast for economic growth this year, of 1.25%, does not look over-optimistic, and Darling is unlikely to change it, but the economy's continuing weakness underlines the risks of removing emergency support too soon.

Against this unpromising backdrop, Mandelson has taken on the challenge of supporting the ailing British manufacturing sector with missionary zeal over the past 12 months, in a programme he calls "new industries, new jobs". It began with a mea culpa about Labour's laissez-faire neglect of industry during its first 12 years in power, but has recently started to bear fruit. The past fortnight alone has seen investment from Nissan to build its new electric car, the Leaf, at its Sunderland plant; Sheffield Forgemasters' announcement that it will build a giant press to make parts for the nuclear industry; and a promise from Ford to manufacture cleaner engines at its Dagenham, Southampton and Bridgend plants. All of these commitments have involved some element of government subsidy – an interventionist approach Labour was wary of for many years.

Now, Mandelson says: "This is not about picking winners; it's about backing technological leaders, creating capacities, and building on the strengths of the economy." To cement this approach – and heighten the contrast with the Tories – Darling is expected to announce two measures on Wednesday: a state-backed infrastructure fund, to bring private investment into big projects and ensure the spending squeeze does not result in crumbling transport links; and a public investment bank, to channel retail investors' funds to fast-growing young businesses.

Both plans have the virtue of being relatively cheap, because they hinge on bringing in private capital, rather than setting aside billions in new government funding. But Mandelson underlines the difference between his hands-on approach and the Tories' philosophy.

At a lively head-to-head debate with his shadow, Ken Clarke, in London last week, Mandelson says Clarke spent "the entire time sneering at every financial backing, investment or strategic intervention". He adds: "The Conservatives talk about protecting manufacturing, but they won't lift a single finger." In fact, Osborne used a speech on Friday to highlight cutting the deficit, raising the nation's savings rate and slashing red tape as the key elements of the Tories' pro-business strategy.

On both sides of the electoral divide, politicians are determined to characterise this week's budget as a defining moment, underscoring the contrasts between the two parties' approaches to fixing the economy. As far as principles and priorities are concerned, that may be true – but when it comes to the details of the challenges facing society and the public in the years ahead, the voters will be left little the wiser.

sursa: guardian.co.uk