Chancellor George Osborne’s Budget, announced Wednesday, will generate plenty of comment in the days and weeks to come. But does it really matter?
British politicians would say that it does, because for them it does. It frames the political debate and increases or reduces their chances of getting elected at the next General Election, due by mid-2015. And budgets inevitably create winners and losers, as some get the spoils while others have to pay.
But as for the broader economy, it’s unlikely to have much if any significance. Economist Chris Dillow has frequently outlined why on his Stumbling and Mumbling blog and in his Investors Chronicle column.
He gives two key reasons.
First, and most important, long-run economic growth tends to be extraordinarily stable in developed economies, notwithstanding the party in power or the policies it’s enacting. In the U.K., for instance, real GDP growth in the quarter century after the end of the Second World War averaged about 2.4% and has averaged around 2.1% since.
Not only that, but economic growth doesn’t vary much between developed countries. The trend rate of growth hasn’t just dropped in the U.K.
Tyler Cowen, an economics professor at George Mason University, has long argued that the U.S. economy benefited from huge innovations made during the first two or three decades of the last century to grow strongly through the 1970s but has since suffered from the lack of equally-revolutionary innovation passing through into economic welfare. Sure the internet is revolutionary, but is it as big a deal as penicillin, refinements in electrical supply and in the internal combustion engine or the invention of powered flight (to name a few of the revolutionary innovations made early in the 20th century)?
Second, budgets might not have much impact in the short term either. As Mr. Dillow notes, a few billions worth of spending difference by the government from one year to the next not only is irrelevant in the context of a £1.5 trillion ($1.984 billion) economy, but, even within the context of the government’s budget, these variations are often little more than rounding errors.
Maybe, at the margins, budgets influence the timing of economic cycles. Policy errors, including government spending, are said to be the root of inflationary overheating and subsequent monetary-tightening-driven recessions. Lax regulation and overly lax monetary policy in combination with excessively easy fiscal policy are likely to have been significant components in the financial crisis. And government deficits are helping to support growth. Longer term, government spending on education and infrastructure helps to define potential growth, and welfare policy may help influence demographics and the natural rate of unemployment.
But these factors are most apparent in developing economies, with China a prime example. Developed economies with free and flexible markets are a lot more immune to government tinkering. Even when the tinkering is counted in the billions of pounds.