4 The public finances - (continued)

General government expenditure

4.23 Table 4.6 shows the 1996-97 outturn and forecasts for 1997-98 and 1998--99 for general government expenditure (GGE) and its main components. The projections are consistent with the public expenditure plans set out in Chapter2. Specifically, it is assumed that the Control Total is unchanged in cash terms from the plans laid out in the last Budget. There is some additional expenditure associated with Welfare to Work and the local authority capital receipts initiative. The expenditure plans are explained more fully in Chapter 2.

The Control Total

4.24 The outturn for Control Total spending in 1996-97 is estimated at £260.4billion, £0.2billion lower than forecast at the time of the last Budget. This represents an overspend of £0.3billion on the original plans laid out in the 1995 Budget. Unanticipated expenditure on measures to eradicate BSE accounted for more than half of the public expenditure Reserve in 1996-97. Despite the modest overshoot in cash spending, the Control Total fell by 3/4 per cent in real terms on 1995-96.


Table 4.6 General government expenditure(1)

£ billion
OutturnForecast
1996-971997-981998-99
Control Total 260.4266.4273.6
Welfare to Work spending 0.21.2
LA spending under the capital receipts initiative0.20.7
Cyclical social security14.313.714.0
Central government debt interest22.324.624.4
Accounting adjustments11.410.110.7
GGE(X)(2)308.4315.3324.7
Privatisation proceeds-4.4-2.00.0
Other adjustments5.16.26.6
GGE309.0319.4331.3
GGE(X)(2)/GDP ratio - per cent4139 1/2 38 3/4
1 See Annex B for conventions and definitions.

2 Excluding privatisation proceeds and lottery financed spending and net of interest and dividend receipts.


4.25 The plans allow Control Total expenditure to rise at an average of just over 2 1/2 per cent in cash terms over the next two years, little changed from the last Budget. In real terms, Control Total expenditure is lower than projected at the time of the last Budget, due to the higher forecast for the GDP deflator.

Budget spending measures

4.26 Spending financed by the windfall tax amounts to £0.2billion in 1997-98 and £1.2billion in 1998-99. Local authority spending under the capital receipts initiative is £0.2billion in 1997-98 and £0.7billion in 1998-99.

Debt interest

4.27 Central government net debt interest was £22.3billion in 1996-97 and has risen by almost 1per cent of GDP over the past five years, reflecting high public sector borrowing. Debt interest is projected to increase further, peaking at over £24 1/2 billion in 1997-98 before stabilising the following year.

Cyclical social security

4.28 The outturn for cyclical social security in 1996-97 of £14.3billion represented a further real year-on-year fall in expenditure, as in the two preceding years. Declining unemployment has largely accounted for this recent trend. But underlying real spending - adjusted for unemployment and policy measures - has continued to grow. The forecast is based on a planning assumption that the level of UK unemployment will be flat at its recent level of 1.65million. The lower average level of unemployment in 1997-98 largely accounts for the projected fall in expenditure to £13.7billion. With unemployment assumed flat thereafter, expenditure is projected to rise the following year due to upratings of benefits and continuing growth in the numbers of non-unemployed claimants.

Privatisation proceeds

4.29 Privatisation proceeds are assumed to be £2billion in 1997-98, unchanged from the last Budget. This largely represents further proceeds from the earlier sales of British Energy and Railtrack. The Government has not announced any specific sales for 1998-99.

Expenditure as share of GDP

4.30 The GGE(X) ratio fell by almost 1 1/4 percentage point of GDP in 1996-97 to 41per cent. This is a little lower than expected at the time of the last Budget due to higher money GDP. The GGE(X) ratio is projected to fall by a further 2 1/4 percentage points over the next two years. Most of this fall stems from very low real growth in the Control Total. The cyclical social security ratio also declines in 1997-98 due to lower recent outturns for unemployment. The decline in the PSBR is sufficient to keep the debt interest ratio broadly stable between 1996-97 and 1998-99.

CHART HERE

Medium-term projections

4.31 The Government has kept to the Control Total cash spending plans announced in the last Budget both for 1997-98 and 1998-99. There are two special and one-off elements of expenditure: spending on Welfare to Work financed by the windfall tax and on housing under the capital receipts initiative. Spending plans for later years will be set only after the comprehensive spending review, which will make strategic decisions about spending from 1999-2000 onwards. It is impossible therefore to make any central assumption for the public finances in later years. However, Table4.7 sets out stylised projections for the public finances based on three illustrative assumptions for spending growth. These illustrative assumptions are:


Table 4.7 Medium-term fiscal projections
per cent of GDP
1999-002000-012001-02
General government receipts(1)39.139.639.7
Tax burden(1)37.538.138.4
Money GDP - £ billion877.0919.0962.0
(A) 3/4 per cent real CT growth
GGE(X)38.237.536.7
GGFD(2)-0.5-1.6-2.5
Current balance(3)1.22.33.3
PSBR-0.2-1.3-2.2
Net public sector debt41.038.134.2
Gross general government debt(2)49.346.142.0
(B) 1 1/2 per cent real CT growth
GGE(X)38.438.037.5
GGFD(2)-0.2-1.1-1.7
Current balance(3)0.91.92.6
PSBR0.1-0.8-1.4
Net public sector debt41.338.835.6
Gross general government debt(2)49.646.943.5
(C) 2 1/4 per cent real CT growth
GGE(X)38.738.538.4
GGFD(2)0.0-0.6-1.0
Current balance(3)0.71.41.9
PSBR0.3-0.3-0.6
Net public sector debt41.539.537.1
Gross general government debt(2)49.847.745.1
1 Case B. Taxes and other receipts directly linked to public expenditure vary slightly in the three cases.

2 On a Maastricht basis. GDP is on an ESA basis, year ending in March.

3 Public Sector.


4.32 The economic assumptions are the same in all three projections, and an almost identical path for revenues is projected. With constant (indexed) tax rates and allowances, receipts tend to grow slightly faster than GDP. This tendency is reinforced by real increases in road fuel and tobacco duties and the cumulative impact of the "Spend to Save" package in the last Budget. The variant projections are shown in Table4.7 and Chart4.6.

4.33 In case C, the PSBR moves slightly into surplus in 2000-01. The ratio of net debt to GDP continues its steady decline, while the ratio of net wealth to GDP starts gradually to recover. In cases A and B, where spending grows more slowly, the PSBR moves more quickly into surplus, and the improvement in the net debt and net wealth ratios is slightly greater (see Chart4.6). However, in all cases the fall in the debt burden is insufficient to reverse fully the rise that occurred over the first half of the 1990s, and the improvement in the public sector's balance sheet is only very modest compared with the deterioration over the past ten years.

CHART HERE

4.34 These medium-term projections are subject to large error margins. One major uncertainty concerns the current cyclical position of the economy. The projections are based on the view that, at present, output in the economy is close to its trend level. But if that assumption was proved wrong, the outlook for the public finances could be very different (see box on page 14). Chart 4.7 illustrates this point further by showing alternative paths for the cyclically-adjusted GGFD and current balance on the cautious assumption that the output gap is currently 1 1/2 per cent higher than the central view. Under this assumption, the improvement in the public finances is significantly less marked.

CHART HERE

Changes since last Budget

4.35 The PSBR is forecast to be lower than in the last Budget by over £8billion both in 1997-98 and 1998-99. This partly reflects the Budget tax and spending measures, which have the net effect of reducing the PSBR by £5 1/2 billion in 1997-98 and £4 3/4 billion in 1998-99. It partly also reflects higher profits estimates for 1996, which feed through to higher corporation tax receipts in future years, and higher projected levels of money GDP, which raise the forecast of revenues from other taxes. These changes to the forecast are summarised in Table 4.8.


Table 4.8 Summary changes to the PSBR forecast since 1996 Budget
£ billion
1997-981998-99
1996 Budget forecast19.212.2
plus Changes to audited assumptions0.63.2
plus LA spending under the capital receipts initiative0.20.7
minus Tax measures (excluding windfall tax)3.44.1
minus Estimated corporation tax yield from higher profits2.13.3
minus Estimated yield from other taxes due to higher money GDP1.83.0
plus Other changes0.6-0.4
equals 1997 Budget underlying PSBR(1)13.35.4
minus Windfall tax2.62.6
plus Welfare to Work spending0.21.2
equals 1997 Budget PSBR forecast10.94.0
1 Excluding windfall tax and associated spending.


Table 4.9 Effects on the PSBR of changing the assumptions for privatisation proceeds, Spend to Save, GDP growth and unemployment
£ billion
1997-981998-991999-20002000-012001-02
Privatisation proceeds01 1/2 111
Spend to Save 1/4 3/4 3/4 11
2 1/4 per cent GDP growth(1) 3/4 1 3/4 2 3/4
Flat unemployment(2) 1/2 3/4 111
Additional debt interest(3)0 1/4 1/2 3/4 1 1/4
Total 1/2 3 1/4 45 1/2 7
A positive figure indicates an increase in the PSBR of changing the relevant assumption. The figures are rounded to the nearest £ 1/4 billion.

1 The effect of changing from 2 1/2 per cent to a 2 1/4 per cent GDP growth rate from 1999-2000 onwards.

2 The effect of assuming UK unemployment flat at its October 1996 level (2.0million) rather than declining as assumed in the November Budget.

3 The effect on public sector debt interest of higher borrowing resulting from changes in the four assumptions.


Changes to key forecast assumptions

4.36 The changes shown in Table 4.8 incorporate the effects of changes in the key assumptions described in paragraph 4.05, and set out in Table 4.9. It is estimated that the net impact of changes to the assumptions on privatisation, the effects of the "Spend to Save" package, unemployment and growth is to add around £ 1/2 billion to the projected level of the PSBR in 1997-98 and £3 1/4 billion in 1998-99.

4.37 Table4.10 gives more detail on changes in the fiscal projections since the last Budget.


Table 4.10 Changes to the PSBR forecast since 1996 Budget
£ billion
1996-971997-98(1)1998-99(1)
PSBR path in 1996 Budget26.419.212.2
contribution from:
General government receipts
Windfall tax2.62.6
Other Budget measures to tax/NICs(1)3.44.1
Other changes to tax/NICs4.53.25.3
Changes to other receipts1.0-0.30.5
Total change in GGR&b;5.58.912.4
General government expenditure
Control Total-0.20.00.0
Welfare to Work0.21.2
LA spending under the capital receipts initiative0.20.7
Cyclical social security0.0-0.5-0.3
Central government debt interest0.1-0.20.0
Accounting adjustments1.10.90.8
Total change in GGE(X)(2)0.90.62.5
Privatisation proceeds(3)0.10.01.5
Other adjustments(4)-0.5-0.20.1
Total change in GGE0.50.44.1
Total change in PSBR-3.6-8.3-8.2
PSBR path in 1997 Budget&b;22.7&b;10.9&b;4.0
1 Changes from an indexed base. See Table 2.2.

2 General government expenditure excluding privatisation proceeds and lottery-financed spending, and net of interest and dividend receipts.

3 A plus sign indicates lower privatisation proceeds.

4 Lottery financed spending and interest and dividend receipts.


1996-97 outturn

4.38 General government receipts in 1996-97 were some £5 1/2 billion higher than forecast in the 1996 Budget. Both income tax and corporation tax receipts were higher than forecast although this was partly offset by lower Customs and Excise taxes. Spending - GGE(X) - was nearly £1billion higher than forecast despite a small downward revision to the Control Total. Higher expenditure was concentrated within the accounting adjustments. Specifically, there has been a major upward revision to ONS data for general government VAT refunds.

General government receipts

4.39 The forecast of general government receipts for 1997-98 has been revised upwards by £9billion. This mostly reflects the Budget measures, but partly also the effect on tax receipts of higher money GDP. There is some offset from lower "other receipts", principally higher government pension payments. Receipts in 1998-99 are some £12 1/2 billion higher than in the last Budget. The Budget measures and higher money GDP growth are again the main explanations for the higher revenues.

General government expenditure

4.40 Expenditure - GGE(X) - is up by £0.6billion in 1997-98 from the last Budget, although Control Total spending is unchanged. Cyclical social security is down by £0.5billion; although unemployment is now projected flat rather than falling as in the last Budget, its level is lower because unemployment has fallen more sharply than expected since November. Debt interest is £0.2billion lower, mainly reflecting lower borrowing. The accounting adjustments are nearly £1billion higher, as the data revision to VAT refunds carries through. The upward revision of GGE(X) in 1998-99 is much larger at £2.5billion. This mainly reflects the additional spending associated with the windfall tax and LA spending under the capital receipts initiative.

Financing policy

4.41 Table4.11 updates the financing arithmetic to allow for the new CGBR forecast, and the latest information on gilts sales and assumptions for other funding. It is now expected that £16.5billion of gilts sales will be required in the months July 1997 to March 1998 to finance the CGBR. Financing policy will be carried out on the basis set out in the remit to the Bank of England (published in the 1997-98 Debt Management Report), subject to changes to the auction programme announced on 2 July, to accommodate the revised gilts sales figure.


Table 4.11 Financing requirement forecast for 1997-98
£ billion
CGBR12.4
Gilts maturing19.6
Plus gilts sales residual from 1996-97-3.9
Financing requirement28.1
Less net National Savings inflow3.0
Less other funding0.0
Gilts sales required25.1
Less gilts sales (April-June 1997)8.6
Further gilts sales required (July 1997-March 1998) 16.5

Forecast errors

4.42 The budget deficit is the difference between two large aggregates of spending and receipts and forecasts of it are inevitably subject to a wide margin of error. Over the past five years the average absolute errors on spring and summer forecasts of the PSBR and the GGFD for the financial year ahead have been around 1per cent of GDP, or plus or minus £8billion in today's prices.

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Prepared 2 July 1997