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The UK should rewrite its “near-term” fiscal rules to allow higher public investment to boost growth, the OECD’s chief economist has said, in a bid to bolster UK Chancellor Rachel Reeves ahead of next month’s Budget.
Alvaro Pereira said on Wednesday that UK fiscal rules, while intended to control government debt, could be counterproductive.
Britain’s rules are based on a five-year rolling roadmap, which Pereira said would give ministers an incentive to delay day-to-day spending cuts but make it difficult to justify long-term investments.
“The UK’s current rules can be biased towards short-termism and potentially damaging to public finances in the long run,” he told the Financial Times.
“Part of the problem identified in the UK is the need to improve infrastructure and improve productivity,” he added.
Pereira made his comments as a Paris-based Organization for Economic Cooperation and Development (OECD)A think tank that advises 38 mainly wealthy countries has published new forecasts for growth and inflation in major economies, showing the UK among the better performers. The change, reflecting the UK’s recent economic resilience, is the largest upward revision to the OECD’s forecasts for any G7 country.
OECD investment warning could help Reeves make case to review the country’s fiscal framework — something she has said she is considering — when she presents the Budget.
The Labour government has told voters it will face “tough choices” such as tax rises to tackle what it calls a £22bn black hole in the public accounts left by the Conservatives.
The prime minister has passed a fiscal rule requiring daily spending to be balanced with tax revenue, allowing borrowing for investment.
But she also said she would impose a second, tougher rule, requiring debt to fall as a proportion of GDP between the fourth and fifth years of the official forecast.
This week Reeves hinted that she could change her fiscal rules to accommodate new capital spending, telling the Labor party conference that the Budget would signal “an end to the low investment that led to the recession”. She added that it was time for the Treasury to start taking into account the benefits of investment, not just the costs.
The OECD argues, in a survey of the UK economy published this month, that setting targets on a continuous five-year timeframe would lead to “suboptimal fiscal policy”.
The report added that, by design, “the actual date for achieving the target never arrives… this at each point creates a strong incentive to implement looser fiscal policy in the coming years and postpone consolidation”.
The OECD report said the UK should consider shortening the period for which fiscal rules apply, while setting clear conditions for when they can be suspended to respond to economic shocks.
The report also suggests that the Treasury could look at measures such as public sector net asset value – which takes into account “what the government owns as well as what it owes” – to help get a broader view of debt sustainability.
The OECD said the information should only be used as “supplementary” information because government assets are often difficult to sell quickly to repay debts.
An alternative measure of debt under consideration by the Treasury is public sector net financial debt. This is a broad measure of debt that takes into account assets such as loans and shares in private companies.
Pereira said the UK economy had grown faster than the OECD expected when it published its most recent forecasts in May, with GDP now forecast to grow by 1.2% in 2024 and 1% in 2025.
Jeremy Hunt, Reeves’ predecessor as chancellor, said the figures showed that “once again… Labour has left a strong economic legacy, despite their desperation to say otherwise”. He added that the chancellor’s Budget choices would be “hers alone”.
However, inflation is likely to be more stable in the UK than in any other G7 economy, averaging 2.7% in 2024 and 2.4% in 2025, according to OECD forecasts.
The OECD said global GDP growth remained solid and is expected to stabilize at 3.2% in 2024 and 2025, despite a deep cross-Atlantic divide, with the US economy growing faster than the sluggish eurozone.
