# = pounds sterling
HM Treasury News Release
216/98 21 December 1998
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EMBARGO: NOT FOR PUBLICATION, BROADCAST OR USE ON CLUB TAPES
BEFORE MIDNIGHT ON MONDAY, 21 DECEMBER 1998
CHANCELLOR WELCOMES IMF'S ASSESSMENT OF UK ECONOMY
The "strong economic performance in recent years" underpinned by
"the shift in the focus of policy making towards setting and
achieving clear medium-term goals" is highlighted today by the
IMF in their annual assessment of the UK economy.
Commenting on the IMF's statement the Chancellor, Gordon Brown,
said:
"I welcome today's assessment by the IMF which provides
international support for the tough action this Government
has taken across the full range of economic policy to ensure
that the UK is well placed to steer a course of stability
through the current difficulties in the world economy."
The IMF note that "private sector fundamentals are strong; and
past policies have ensured that monetary policy is well placed
to respond appropriately, and fiscal policy to utilize fully the
automatic stabilizers." On this basis, they say that "it is
likely, therefore, that the slowdown will be short-lived...".
Other highlights of the IMF's annual assessment include:
welcoming the Government's approach to the
accountability and transparency of economic policy,
where the UK is regarded as "in the vanguard";
supporting Bank of England independence and noting
that " the way the Bank and the MPC have responded to
this charge is impressive";
praise for the Government's fiscal policy, where they
note that "the degree of fiscal consolidation achieved
by the Government since coming to office can only be
viewed as highly commendable";
a welcome for the "emphasis on policies to help
vulnerable groups while encouraging greater individual
responsibility, efficiency and flexibility". In
particular, they cite the New Deal, the Working
Families Tax Credit, changes to National Insurance
Contributions and proposed pension reform; and
commendation for the Government's "initiatives to
relieve the poorest countries' debt problem and for
their commitment to reverse the downward trend in UK
overseas aid."
In line with the Government's latest economic forecast, the IMF
notes that the
"economy is now weakening, possibly more than needed for
sustainability because of adverse external developments" in the
world economy. In its interim World Economic Outlook, also
published today, the IMF's revised forecast for UK growth in 1999
is 0.9 per cent, in line with the Government's Pre-Budget Report
forecast.
NOTES FOR EDITORS
1. As part of its normal surveillance work, the IMF makes a
regular annual assessment of the UK economy along with other
Member States. The full text of the IMF's Concluding
Statement following its UK Article IV consultation is
attached.
2. IMF surveillance of every major economy is carried out
primarily through annual discussions between Fund staff and
member governments and central banks, called Article IV
consultations. The resulting reports are discussed at the
IMF's Executive Board.
3. The IMF have also today, published an interim World Economic
Outlook with revised forecasts for world economic growth -
copies are obtainable direct from the IMF.
United Kingdom -- 1998 Article IV Consultation
Concluding Statement of the Mission
The United Kingdom has enjoyed strong economic performance
in recent years. Real growth has been high, unemployment rates
have fallen to historically low levels, and inflation has
remained low and close to the Government's target. Indeed, by
early 1998 performance became in some respects too strong, and
a threat of overheating emerged. The economy is now weakening,
possibly more than needed for sustainability because of adverse
external developments. But private sector fundamentals are
strong; and past policies have ensured that monetary policy is
well placed to respond appropriately, and fiscal policy to
utilize fully the automatic stabilizers. It is likely, therefore,
that the slowdown will be short-lived, although there are
downside risks stemming from the still high value of sterling,
an inventory overhang, and continuing uncertainty regarding the
world economy.
The strong economic performance of the past few years and
the increased credibility evident in market data owe much to the
record of good policies, underpinned as they are by the shift in
the focus of policy making towards setting and achieving clear
medium-term goals. The current Government, building on past
reforms, is putting in place an architecture that emphasizes
division of responsibilities, clear lines of accountability, and
explicit targets against which performance can be transparently
judged. We look forward to the full implementation of these
initiatives, which are in line with evolving best practices
internationally (where the United Kingdom is in the vanguard).
The best example of this strategy remains the Government's
decisions with respect to the Bank of England. These focused the
activities of the Bank (and the Treasury) by making it
independent and accountable for controlling inflation, and by
shifting potentially conflicting and not intrinsically related
responsibilities (banking supervision and debt management) to
others. Equally central have been the clear mechanisms of
accountability of the Bank, reinforced by the clarity and
symmetry of its remit (to keep inflation as close as possible to
2 1/2 percent without incurring unnecessary output costs).
The way the Bank and the MPC have responded to this charge
is impressive. The process leading up to policy decisions is
professional and focused on bringing together in a systematic and
comprehensive way the elements that might foreseeably affect
inflation over the next several years. We are particularly
impressed by the way the members of the MPC have, collectively
and individually, taken up and made their own this task of
looking forward--an essential one for lastingly good outcomes.
For this to be sustained, the MPC needs to continue to be
comprised of individuals with the training, judgement, and
breadth of viewpoint and experience needed to carry out this
task.
As regards accountability, we welcome the steps taken by the
MPC to enhance further the transparency of the process. We
particularly welcome the decision to shorten the publication lag
of the minutes of MPC meetings to only two weeks, thus allowing
the public to assess the reasoning of the Committee before the
subsequent meeting. The current style of the minutes, which gives
a flavor of the policy debate and of the differing opinions
within the Committee, provides significant and useful
information, and it should be retained. The Inflation Report,
which has become the flagship publication of the Committee,
provides a comprehensive overview of recent developments.
However, the forward-looking aspects of the analysis would
benefit from a more complete and accessible discussion, as in the
minutes, of the range of considerations and views that inform
policy decisions.
Overall, this framework has resulted in decisions well tuned
to the ebb and flow of the inflationary (or deflationary)
outlook. We particularly welcome the prompt response in recent
months to weakening prospects, a responsiveness which we and the
markets fully expect to see continue.
Looking further ahead, the Government should consider
shifting to an inflation target cast in terms of the Harmonized
Index of Consumer Prices (HICP). Clearly, such a decision should
not be taken lightly since a foremost consideration should be
preserving the credibility of monetary policy. Nonetheless, the
reasons for shifting at some point seem compelling. Though the
HICP is still under development, it is generally considered the
technically superior index. Moreover, it is the index most
comparable to that used elsewhere in Europe, an important
consideration in the context of achieving convergence. Finally,
a target cast in terms of the RPIX appears to needlessly sell
short the extent of the U.K.'s inflation convergence: the U.K.
inflation rate, when measured by the HICP, is near the European
average.
Turning to fiscal policy, the degree of fiscal
consolidation achieved by the Government since coming to office
can only be viewed as highly commendable. As a result of these
efforts, the budget is now essentially in balance in cyclically
adjusted (or structural) terms and the ratio of debt to GDP is
on a downward course. These actions have laid the foundation for
fiscal sustainability over the medium term within a structure
that can allow full play to the automatic stabilizers in the
event of a downturn. The challenge looking forward is to preserve
and solidify this foundation.
The Government has responded to this challenge with a fiscal
framework that broadly meets the requirements of the Fund's Code
of Fiscal Conduct and consists of three main strands. First,
two aggregate fiscal rules that apply over the business cycle--
the golden rule, which precludes debt financing of current
spending, and the debt rule, specifying a stable and prudent
public debt to GDP ratio--place limits on the scope for future
policy action. Second, budgetary plans and expenditure limits are
designed to keep budget outturns prudently within these limits
over the next three years. And, third, new procedures--notably
Public Service Agreements and associated performance commitments,
and the process for evaluating departmental investment plans--
provide incentives to help ensure that spending plans will be
respected and money will be well spent.
If implemented, this framework and the parallel commitment
to transparency should help to ensure the stability of the public
finances. In this respect, we would emphasize the need for the
Government to stick to its plans and maintain a prudent margin
relative to the medium-term limits specified by the aggregate
rules. The Government's credibility in this area is of recent
vintage, and needs to be reinforced by continuing fiscal
prudence. In addition, the plans already imply a moderately
expansionary thrust. While this is welcome in view of the
immediate risks to growth and to make room for increased public
investment, if current spending were to rise faster than GDP over
the medium term the scope for tax cuts of various kinds would be
unduly limited.
In adhering to present plans, particularly careful watch
will be needed in three areas:
--The three-year Departmental Expenditure Limits. These
will be tested, but need to be respected. These limits usefully
allow some flexibility, in that resources can be shifted within
each department and shifted forward should an annual budget be
undershot. More generally, substantially more detailed
information in the core budget documents on past and planned
spending by major functions and program areas would significantly
increase transparency and accountability.
--Tax expenditures. These tend to be forgotten, even though
they cumulate over time, cause unwanted distortions, and impart
a negative drift to the public finances. Strict enforcement of
Departmental Expenditure Limits could result in pressures to
introduce or expand tax expenditures. As a first step, it would
be desirable to have a more transparent account of all existing
as well as proposed tax expenditures in the core budget
documents.
--The efficiency of public spending. The Government should
continue to build on the progress already made in ensuring that
public money is well spent. The decision to increase public
sector investment, while overdue, carries with it the risk of
waste. To prevent this, the mechanisms for evaluating investment
projects, as reflected in the Departmental Investment Strategies,
need to be rigorous and transparent. With regard to spending more
generally, we welcome the recently published Public Service
Agreements, and the associated commitments of each department to
achieve specific, often ascertainable goals. This should help
instill an output-oriented culture, but only if shortcomings in
performance are duly evaluated and the proper implications drawn.
As regards other policies, the Government has reformed
financial sector regulation by establishing the Financial
Services Authority (FSA), an initiative that should prompt
improvements. In the United Kingdom, where financial regulation
has been spread thus far among nine separate bodies, the shift
to a single regulator will clarify regulation and improve
supervision of increasingly integrated multi-sector financial
institutions. Unified supervision of complex financial groups
will also strengthen the FSA's ability to regulate the City's
large, internationally integrated financial market. Consumer
protection, a major mandate of the FSA, should also be
strengthened and become more uniform. As regards risks, the
separation of banking supervision and lender-of-last-resort
responsibilities will require the FSA and the Bank of England to
act in close coordination. The combination of formal structures
and working-level relationships that link the two institutions
seems appropriate, and should provide the Bank with the
supervisory information it needs to fulfill its lender-of-last-
resort mandate.
Turning to other structural reforms, we welcome the emphasis
on policies to help vulnerable groups while encouraging greater
individual responsibility, efficiency, and flexibility. The New
Deal emphasizes active policies to promote greater participation
in the labor force, thereby reducing exclusion. These policies
are reinforced by the proposed Working Families Tax Credit and
changes to National Insurance Contributions, which encourage work
by reducing marginal effective tax rates at the low end.
Finally, the recently proposed pension reform would also help low
income groups, although its economic effects and costs need to
be analyzed further, especially as regards the implications for
the rather low level of national saving.
Over the medium term, a key decision confronting the United
Kingdom is whether and when to join EMU. We welcome the
preliminary contingency plans the Government is making regarding
the procedural aspects. As regards the economic aspects, the
Government's five tests identify the issues. Moreover, its
stability-oriented policies offer a realistic prospect of
increasing convergence over the next few years. Adoption of the
euro would nevertheless involve a considerable regime change for
the U.K. economy, and it is essential that all aspects of such
a change, including the structural ones, be reviewed and
addressed on an ongoing basis.
We commend the authorities for their initiatives to relieve
the poorest countries' debt problem and for their commitment to
reverse the downward trend in U.K. overseas aid spending. We
encourage the authorities to accelerate progress toward the U.N.
target of 0.7 percent of GDP.