Bloomberg News

Osborne Vows More Austerity as Slump Hits U.K. Deficit Plan

December 01, 2011

(Updates with Fitch starting in eighth paragraph, Osborne in 12th. For more on Osborne’s end-of-year financial statement, click on UKBU.)

Nov. 30 (Bloomberg) -- Chancellor of the Exchequer George Osborne said Britain faces two extra years of austerity as he sought to shore up his deficit-reduction plans, intensifying a conflict with unions that are staging a mass walkout today.

Osborne used his end-of-year economic statement to Parliament yesterday to announce 23 billion pounds ($36 billion) of additional spending cuts after the Office for Budget Responsibility slashed its forecasts for economic growth. The fiscal watchdog predicted Osborne will need to borrow an extra 112 billion pounds by 2016 and said more than 700,000 public- sector workers will lose their jobs over the next six years.

“Osborne acknowledges that the consolidation program is behind schedule and aims to make up for lost ground with an even longer period of fiscal austerity,” Michael Saunders, chief European economist at Citigroup in London, said in an interview. “The government has no alternative. If they slide, the markets will put the U.K. from Category A to Category B.”

Unions say as many as 2 million public-sector workers will join today’s 24-hour strike over plans to make them contribute more toward their pensions and retire later. Osborne is extending his spending cuts beyond 2015, when they were due to end, risking a backlash from voters in the election due in May of that year.

Spending Cuts

“Although people aren’t overly enamored with the speed and depth of the cuts, it’s difficult to see how they’ll vote then,” Ben Page, managing director of Ipsos Mori, a London- based polling organization, said in a phone interview. “A lot is going to depend on how much unemployment rises and how quickly growth returns, but people are still disenchanted with Labour.”

The spending cuts, amounting to 8.3 billion pounds in 2015- 16 and 15.1 billion pounds the following year, come on top of the 80 billion pounds already planned by Osborne, the backbone of his effort to eliminate the structural budget deficit.

The OBR, which prepares forecasts for the Treasury, said the 2008 financial crisis and the ensuing recession has damaged Britain’s growth potential and the economy will be as much as 15 percent smaller than anticipated by the end of the current parliament. As a result, Osborne’s deficit target will now be met by April 2017, two years later than first envisaged, it said.

Fitch Ratings said Osborne had demonstrated “a continuing commitment” to putting the public finances on a sustainable path, although Britain will become the second-most indebted country with a top credit score after the U.S., which the ratings company has already given a negative outlook.

‘Exhausted’

“The capacity of U.K. public finances to absorb adverse economic and financial shocks that would result in yet higher public debt while retaining its AAA status has largely been exhausted,” Fitch said in a statement yesterday. The OBR predicts net debt will peak at 78 percent of gross domestic product in 2014-15, compared with 67.5 percent this year.

The pound fell 0.4 percent against the dollar and was trading at $1.5538 as of 9:18 a.m. London time. U.K. government bonds extended yesterday’s gains, sending the 10-year yield 5 basis points lower to 2.18 percent.

Growth will be 0.9 percent in 2011, half the 1.7 percent forecast in March, and 0.7 percent next year, less than a third of the previously predicted 2.5 percent, the OBR said. Unemployment will rise to 8.7 percent in 2012 from 8.1 percent this year, it said. Osborne said the euro-region debt crisis was having a “chilling effect” on the British economy.

Recession Risk

“If the euro zone goes into deep recession I’m afraid Britain will find it hard to avoid recession,” Osborne told BBC1 Television today. “We are very affected by the euro zone.”

OBR Chairman Robert Chote said there was a one-in-three chance of two consecutive quarters of economic contraction by the middle of next year. A breakup of the euro had not been factored into the group’s forecasts, he said.

The downgraded growth forecasts drew further attack from the opposition Labour Party, which says the severity of the chancellor’s budget-deficit program has added to unemployment, shattered consumer confidence and failed to stem the pace of borrowing.

“His economic strategy is in tatters,” Ed Balls, Labour’s economic spokesman, told lawmakers. “Going further and faster has been utterly counterproductive and self-defeating. It has backfired. We’ve had all the pain and none of the gain.”

Pay Squeeze

Savings will be made by further squeezing the wages of state workers, who will see their pay increase by no more than 1 percent after the current freeze ends in 2013, Osborne said. The state retirement age will rise to 67 from 66 starting in 2026, a decade earlier than planned.

Employment in central and local government will fall by 710,000 by early 2017, the OBR said. It previously predicted the loss of 400,000 jobs through the first quarter of 2016. The OBR expects the cuts to be offset by the creation of 1.7 million private-sector jobs.

Osborne said the U.K. will introduce a 40 billion-pound “credit-easing” program to spur growth by using low borrowing rates available to the government to support lending to small and medium-sized companies.

Infrastructure Plan

He said he had enlisted the help of pension funds to help finance a 30 billion-pound improvement to the nation’s roads, rail lines and energy infrastructure.

“The chancellor has rightly targeted infrastructure investment and the financing of smaller businesses,” Ian Stewart, chief economist at Deloitte & Touche LLC in London, said in a note to clients.

Osborne announced measures designed to relieve the burden on squeezed families, including delaying an increase in fuel duty of 3 pence per liter scheduled for January 2012. The government will provide funds to limit rail fare increases to 1 percentage point more than retail-price inflation, rather than 3 points. Mortgage indemnities will also help 100,000 families buy newly built homes.

The government’s forecasts were preceded this week by a similarly gloomy outlook for the U.K. from the Organization for Economic Cooperation and Development, which said the U.K. may already be in recession and predicted that the Bank of England will probably increase its quantitative easing program to 400 billion pounds from 275 billion pounds.

--With assistance from Robert Hutton, Thomas Penny, Svenja O’Donnell, Jennifer Ryan and Scott Hamilton in London. Editors: Andrew Atkinson, Eddie Buckle

To contact the reporter on this story: Gonzalo Vina in London at gvina@bloomberg.net

To contact the editor responsible for this story: James Hertling at jhertling@bloomberg.net


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