Tax rises loom but OBR forecasts have been wrong for years – The Telegraph

To satisfy our fiscal watchdog, Jeremy Hunt is about to launch more raids than the SAS
It will be the most feared financial statement of recent times. When the Chancellor Jeremy Hunt finally stands up in the House of Commons on Thursday to unveil the Government’s long-term fiscal plans, he will end weeks of speculation about punishing tax rises and huge spending cuts. 
A raid on pensions. A raid on entrepreneurs. A raid on the energy companies, or the banks, or on the rich, or on landlords. Add it all up, and Treasury officials and advisers have been launching more raids than the entire cast of SAS Rogue Heroes.
By this time next week, we will know which ones were just gossip and which taxes the Chancellor and the Prime Minister have actually chosen to impose. 
But alongside the usual debates about who wins and who loses, about how different tax rises will play with different groups of voters, and what precise impact each one might have on the long-term performance of the British economy, there is another more interesting question.
How did we get here? And why is there suddenly a £50bn “black hole” in the public finances that has to be filled
The conventional answer is that the Office For Budget Responsibility (OBR) has identified a huge gap between what the Government can expect to collect in tax revenues and what it is committed to spending.
Somehow, this thesis goes, it has to be brought into balance if the national debt is not to spiral out of control.
In reality, however, the OBR is just one forecaster among many – and not even one with an especially stellar record of getting things right.
The trade minister Kemi Badenoch caused a stir this month when she observed acidly, “the OBR has a view and we have a view” – a comment that was seen as an attack on an institution that is meant to be above the political fray, and one which, more importantly, the markets have come to rely on as the only objective arbiter of the public finances.
But what if she is right? As public spending is cut, as living standards fall, and as the economy is tipped into a recession that may not even be necessary, the extraordinary power of an organisation that was until recently little known, will come under closer and closer scrutiny. 
And rightly so – because, after getting every one of its major forecasts wrong, there is very little hard evidence that the OBR deserves that God-like power it now holds over the UK.
As with so much that is wrong with the British economy, the problem started with Gordon Brown
During his long reign as Chancellor alongside Tony Blair, Brown exerted an iron grip on Treasury policy-making, micromanaging every decision it made and extending its influence into every corner of the government machine. 
With a determination to vastly increase the size of the state, while at the same time maintaining a facade of prudence, critics accused Brown of manipulating targets and forecasts and coming up with a succession of “golden rules” that were immediately forgotten about when he wanted to spend some more money.
The result? Treasury predictions, which used to be a fairly reliable, consensus view, were dismissed by opponents as instruments of propaganda, used to disguise what was really happening, and to outfox his political opponents. 
They were, in short, hopelessly compromised. 
That was the backdrop to George Osborne’s decision, on taking over at Number 11 in 2010, to create the Office For Budget Responsibility.
On the surface, it was designed to bring objectivity and reliability to forecasting and end the shenanigans of the Brown years. At last the government would have an independent arbiter of whether it was spending its money wisely, and whether it was keeping the national debt under control. 
But for Osborne, a Chancellor every bit as political as Brown, it also had two other objectives. It would provide cover for spending cuts that were presented as necessary for averting a debt crisis but which were in reality part of a project for reducing the size of the state by stealth (a very good idea, as it happens, but that is a different story).
And, just as importantly, it was designed to lay a trap for the Labour Party. An Ed Miliband government in 2015, and even more a Jeremy Corbyn one in 2017, would have soon found itself in furious arguments with the OBR over its spending plans, and Tory shadows would have been ripping into them for “fiscal irresponsibility” while Osborne looked on and chuckled from a well-paid desk in the City. 
As a political plan it was hard to fault, and for a few years at least it worked like clockwork.
This has clearly backfired on an epic scale – and it is now the Conservative Party that is beholden to the judgements of the OBR. 
One of the key problems with Kwasi Kwarteng’s ultimately disastrous mini-Budget was that it was not accompanied by an official forecast of its impact by the office, which has been elevated to almost mythological status by the bond markets as the arbiter of fiscal seriousness, with its judgements treated as final.
If the OBR says taxes have to be raised, and spending cut, to keep the debt under control then that is what has to be done.
Any attempt to challenge its verdict risks a meltdown even worse than the crisis we witnessed in September when global investors bailed out of sterling, interest rates soared, and the Bank of England was forced into emergency intervention
No one wants to replay those traumatic few days, and it is unlikely the government would survive if it did.
And yet, as it turns out, many leading Conservatives have started to question the wisdom of surrendering so much control to the organisation they created. It is not just Kemi Badendoch. 
“One has to differentiate between a forecast and holy writ. And there is some extent to which the OBR is being viewed as holy writ, rather than a forecast, and that is a mistake,” said Jacob Rees-Mogg, the former Business Secretary.
“The Chancellor has to decide how much weight to put on these forecasts. The OBR’s forecasts are forecasts based on certain inputs into its model which are variable. Some changes in the variables lead to very different forecasts,” he added.
“We have seen this over the past few weeks with the size of the so-called black hole fluctuating by tens of billions of pounds, on movements in the gilt market and so on.”
In private, many more senior Conservatives, from all wings of the party, have plenty of sympathy with that view. 
Criticism of the OBR is not restricted to the right. The shadow chancellor Rachel Reeves might have spent the last few weeks using it to beat a succession of Tory chancellors over the head (a tactic she may regret if she is ever in government) but more thoughtful voices on the left are starting to get just as worried about its crushing influence on the debate. 
The Progressive Economy Forum put out a report on Thursday arguing that if you added up the numbers slightly differently the “black hole” completely vanished. For example, if the Treasury switched back to the rule used for calculating the way both the Government and the Bank of England’s debt is added up it would completely eliminate the deficit. 
“If the ‘hole’ disappears with small changes in forecasts or accounting rules, it is not a reliable basis for economic policy changes, especially of the size the government is reportedly considering,” argued the Forum’s economist Jo Mitchell.
No one is especially criticising the organisation itself, or the people who staff it. Under Sir Robert Chote, who ran it for 10 years, it was objective, well-meaning, and – perhaps not surprisingly for someone who started his career as a journalist – media-savvy.
It added a level of objectivity and rigour to the British economy debate that was well worth having. 
That said, however, its record as a forecaster has not been that great. To its credit, the OBR is unusually transparent compared with most public bodies. It is certainly better than the Treasury, routinely confessing to its errors and regularly publishing self-criticism in the form of evaluation reports.
There are plenty of mistakes to admit. For example, in 2017 Chote admitted it had consistently over-estimated productivity, that is the ability of companies and workers to keep producing more output per hour worked, a key factor in boosting long-term growth.
“In the face of repeated disappointments we have always assumed that productivity growth would pick up to something approaching its long-run historical rate over the medium-term, but that the level would not rebound to its previous path as it always had following previous recessions,” he said when presenting that year’s evaluation report.
“But even this relatively pessimistic view – that the financial crisis had done permanent and large, but not increasingly large, damage to the economy’s productive potential – has not been pessimistic enough.”
The result? It came up with unrealistically strong growth forecasts and under-estimates of the deficit, giving the chancellor a hopelessly over-optimistic picture of the state of the public finances. 
Meanwhile, after the Brexit vote, the OBR and the wider economic orthodoxy anticipated a complete disaster. It avoided getting swept up in the immediate panic of 2016, not having to produce an official set of forecasts until the Autumn Statement in November, but still slashed back its GDP forecasts. 
In practice that meant ditching the pretty accurate March 2016 prediction of 2.2pc GDP growth in 2017, replacing it with a much more downbeat 1.4pc projection. In the event, the economy expanded by 2.1pc, showing the pessimism was an overreaction, and one that risked an extra squeeze on the public finance forecasts.
“GDP growth initially held up better than we expected, but more recently GDP growth has been slower than we expected in our November 2016 forecast,” its evaluation report later admitted. 
“Overall, we expected cumulative GDP growth between the second quarter of 2016 and the third quarter of 2018 of 3.6pc. The ONS currently estimates that growth over this period was very close to this at 3.8pc.”
This is far from the only forecast to get wrong. In fact, the OBR has not produced a perfectly accurate five year prediction in a decade of forecasts reviewed by the Telegraph on borrowing, GDP growth and inflation – and sometimes it has been a long way wide of the mark.
In 2010, it expected borrowing to be £20bn in 2015-16. Instead, it was £80.6bn. In 2016, it forecast a surplus of £11bn for 2020-21 – far better than the £312.6bn actually borrowed, largely because of a pandemic that no one saw coming.
Economic growth forecasts were not much better, with misses ranging from 0.1 percentage points to as many as 13.1 points in the past decade. The inflation forecast was also repeatedly under or overestimated.
Of course, the OBR itself is quick to point out that its predictions should not be taken as gospel. But that is nonetheless how they are taken by the markets.
And this has real world consequences for policy – and all of our lives. Osborne’s austerity was calibrated to balance the books based on OBR modelling.
Sunak is about to implement brutal tax rises so that his government is flattered by predictions five years out from now, which will almost certainly turn out to be way off the mark.
Some of this is down to the inherent difficulty of forecasting anything as complex as the modern economy. But some of it is also down to the methods employed by the OBR, and what it chooses to focus on, and more importantly what it decides to ignore. 
Andrew Lilico, of Europe Economics, argues that its independent analysis of information which is not in the public domain is “useful” but that doesn’t mean the OBR’s numbers are somehow the last word on the matter. “There are a few weaknesses that are created by this independent structure,” he says.
“There are a number of modelling weaknesses that are involved in what the OBR does. The dynamic modelling – that is, modelling what the impacts are of tax and spending measures themselves on the long-term growth rate of the economy – is not very advanced.” 
That may sound arcane, but in practice it matters a lot. It means that the positive effect of tax cuts or spending projects on GDP growth may be underestimated, while the full harm of tax rises or spending cuts could be missed, and if so the Office itself would have an inbuilt bias toward austerity, spending cuts and higher taxes. 
And, worryingly, the more powerful it becomes the more the UK will be trapped in a doom loop of rising taxes that crush growth that then demand yet more tax rises. 
We may well see the start of that next week. With the British economy already shrinking, and with interest rates going up, it is hard to find many economists who genuinely believe that now is the moment to inflict more tax rises and spending cuts on the country. 
Finding £50bn or £60bn is no mean feat for a Treasury already pummelled by Covid and the energy crisis and now facing a recession. 
If the OBR’s forecasts are off and it is being too pessimistic, assuming the Chancellor takes it completely at face value and acts on its warnings so that he can prove to gilt investors he is hitting his self-imposed target, that risks imposing unnecessary tax rises or spending cuts- and in turn, worsening the country’s economic predicament.
Ruth Gregory at Capital Economics says “if he wants to reassure the markets, he will have to announce early action in the form of a big fiscal tightening”.
However, she adds, “that could deepen and/or lengthen the recession and ultimately create an even bigger fiscal hole”. 
That is very true. Right now, the big question about the rise of the OBR is surely this. Why are we handing so much power to a body that no one voted for, which has very little accountability and doesn’t even have a great track record of accuracy?
Although that might be a question for a historian, a philosopher, or perhaps even a novelist – Charles Dickens would have had a heck of a lot of fun with its cruel forecasts and ghastly conjectures – there are fundamentally two answers. 
The first is that we are spooked by the strange way the Government treats money. 
We have been through 15 years of a financial crisis, followed by vast quantities of printed money, huge rises in debt, zero interest rates, and massive increases in state spending. It all feels very weird.
An impartial body, especially one with such important sounding words as “Budget” and “Responsibility” in its title (who would be arguing for Budget Irresponsibility?), gives the impression that it might finally bring some discipline and order to a financial system that seems to have run out of control. 
The second is that, even after we voted for Brexit, we still to some degree hanker after the rule of the unelected technocrats. We no longer entirely trust the political class, or the civil servants who advise them (and after the craziness of the last few weeks it is not hard to see why). 
We sort of hope that there might just be some very clever ‘experts’ who can simply make the right decisions for the long-term and everything will then turn out alright. 
The OBR answers that need perfectly, and that makes it very hard for mere elected politicians to overrule it. 
We will see what happens on Thursday. The tax rises and spending cuts may not be as bad as some of the speculation suggests, and the black hole may not be as big as it seemed only a few weeks ago.
Any bleak numbers will mostly be blamed on Hunt and Sunak – and, even more, on the unfortunate Liz Truss. And yet, in reality it is the OBR and its forecasts that are demanding this round of austerity. 
When it was created a mere 12 years ago, the OBR may have seemed a clever way of bringing some stability and calm to spending decisions.
Instead it is set to unleash only chaos and cuts – and worst of all no one knows how to bring it back under control again.
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