Monday 7 June 2010

EU: Convergence programme and budget cuts United Kingdom

Britain’s prime minister David Cameron is a busy man. He met Herman Van Rompuy, a man the politically illiterate crew in Downing Street brand as the “EU President”, when in fact he is the president of the European Council (without a vote). They also refer to the “EU Council”, when they clearly mean the upcoming meeting of the European Council 17 June 2010, where Cameron sits together with the other heads of state or government from the EU member states. (Luckily, the press release was short; only two obvious misnomers.)

Today, Cameron also spoke on the economy, preparing the ground for budget cuts:

This year – at least according to the previous government’s forecasts – [the budget deficit] is set to be over 11 per cent of GDP. Today, our national debt stands at £770 billion.

Within just five years it is set to nearly double, to £1.4 trillion.

The cuts will be specified in an emergency budget in two weeks.

Cameron referred to the G20 meeting as an endorsement for the UK plans, but references to the European Union were mostly confined to the terrifying example of Greece.

Convergence report

Despite the UK’s soloist streak, it is a member of the European Union. The Commission monitors Britain’s economy and the Council issues opinions, as for other member states. The latest opinion of the Council of the European Union has been published in the Official Journal of the European Union (OJEU):

COUNCIL OPINION on the updated convergence programme of the United Kingdom, 2009/2010-2014/2015: published OJEU 4.6.2010 C 146/18

Economic situation

On 26 April 2010 the EU Council examined the updated convergence programme of the United Kingdom, which covers the period 2009/2010 to 2014/2015. The Council began its assessment with a brief description of the economic situation:

The economic and financial crisis, which began in 2007 after several years of strong growth, saw UK economic output fall cumulatively by around 6 %, with modest recovery starting to appear in the final quarter of 2009. The crisis was preceded and partly aggravated by a period of progressive increases in leverage of the household and financial sectors, such that a dependence on net capital inflows was large and persistent. In response to the unfolding crisis, the Bank of England responded with an aggressive programme of interest rate reductions, liquidity support for the banking sector and, from March 2009, quantitative easing. The government also intervened extensively to stabilise the financial system, including by major equity injections, deposit guarantees and the provision of liability insurance. In line with the EERP [European Economic Recovery Plan], the government implemented a sizeable fiscal stimulus, which in combination with the operation of automatic stabilisers and the effects on revenue of falls in asset prices contributed to a major deterioration in public finances. The weakening of the sustainability of UK public finances was aggravated by the fact that the primary balance was already in substantial structural deficit in the period leading up to the crisis, leading to the general government headline deficit soon going well above the 3 % of GDP reference value as the crisis unfolded. Accordingly, the United Kingdom was made subject to an excessive deficit procedure on 8 July 2008 and on 2 December 2009 the Council issued the latest recommendations in accordance with Article 126(7) of the Treaty on the Functioning of the European Union (TFEU) to correct the deficit by 2014/2015. The main challenges for the UK economy over the next years are to stabilise the public finances in the context of ongoing efforts by the household sector to reduce outstanding gearing; to achieve adequate levels of credit provision from a still fragile financial system, with many credit providers having reduced their lending capacity; and to underpin a shift of production towards greater tradeable output so as to permanently improve its external balance.

Council recommendation

After a detailed discussion, and in the light of the recommendation under Article 126(7) TFEU of 2 December 2009, the Council of the European Union invited the United Kingdom to:

(i) avoid any further measures contributing to the deterioration of public finances in 2010/2011 and in the event of weaker economic growth than foreseen in the programme contain the government deficit in 2010/2011 to at most that forecast in the January 2010 programme in case risks related to the fact that the macroeconomic scenario of the programme is more favourable than the scenario underpinning the Article 126(7) recommendation materialise;

(ii) target a more ambitious reduction of the government deficit to less than the 3 % of GDP Treaty reference value by 2014/2015 at the latest, including by strengthening the planned pace of fiscal effort from 2011/2012 onwards in line with the Council recommendation under Article 126(7), and seize any further opportunities, including from better-than-expected economic and market conditions, to accelerate the reduction of the gross debt ratio towards the 60 % of GDP reference value, thereby also improving the long-term sustainability of public finances;

(iii) publish in 2010 the detailed departmental spending limits underlying the overall expenditure projections for at least the three-year period beyond 2010/2011;

(iv) implement the expenditure efficiency savings identified in the Operational Efficiency Programme (OEP) and in other value for money initiatives.

The United Kingdom is also invited to improve compliance with the data requirements of the code of conduct.

The United Kingdom is also invited to submit in time for the assessment of the effective action under the Excessive Deficit Procedure an addendum to the programme to report on progress made in the implementation of the Council recommendation under Article 126(7) of 2 December 2009 and to outline in some detail the consolidation strategy that will be necessary to progress towards the correction of the excessive deficit. The Council reiterates its invitation that all subsequent updates should also provide a chapter with this information as long as a Member State remains subject to an excessive deficit procedure.

The gloomy prospects prime minister David Cameron referred to today can hardly have come as a surprise, after the new coalition government took office. The 26 April 2010 assessments by the Council and its recommendations to the member states were public knowledge, although it took the EU more than a month to publish them in the OJEU.

Until the promised budget cuts take effect, the UK’s government borrowing pace is breath-taking. Luckily, the sky-rocketing debt level was fairly low before the financial and economic crisis.

The latest UK House of Commons Library research paper (10/39) Economic Indicators June 2010 contains valuable information about the real economy, finance and UK public finances.

Convergence reports 2010

Because of their opt-outs, Denmark and the United Kingdom are the two loners among the EU’s non-euro member states. Therefore, they are not examined in the convergence reports 2010.

Still, for a European perspective and comparison with the nine other EU member states still outside the euro area, you can study the convergence reports published by the European Central Bank and the European Commission:

European Central Bank: Convergence Report May 2010 (273 pages)

European Commission: Convergence Report 2010 (Prepared in accordance with Article 140(1) of the Treaty); Brussels, 12.5.2010 COM(2010) 238 final (30 pages)

Commission staff working document accompanying the Convergence Report 2010; Brussels, 12.5.2010 SEC(2010) 598 final (197 pages)

Naturally, Britain takes part in the Ecofin Council (and other Council configurations), but it does not participate in the unofficial Euro Group, which met today in Luxembourg.

Ralf Grahn

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