Europe: the storm clouds are gathering once more

Britain faces five more years of austerity, and Europe’s woes will only increase the pain

By Jeremy Warner

For many people in Britain, Jean-Claude Juncker represents all that is worst about the European Union – arrogant, complacent, instilled with an unshakeable belief in the manifest destiny of ever closer union, and apparently anti-British to boot.

Yet everyone has at least one redeeming feature, and for Mr Juncker it is coming up with one of the more memorable observations on economic reform in Europe: “We all know what to do. We just don’t know how to get re-elected after we’ve done it.”

I’ll come to the application of the so-called “Juncker curse” to the eurozone later, but closer to home, George Osborne is only too painfully aware of what he means. The fact that Britain’s fiscal consolidation is only half-completed is an open wound that would tax even the most masochistic of politicians.

The idea was to get the pain over with early, and then wallow in the glory of a job well done and the promise of sunlit uplands to come. Sadly, it hasn’t worked out that way. Rather than austerity nearing completion, as planned, five more years await any incoming administration – on top of the five years already imposed.

Even on the Government’s own numbers, there is another £25 billion of cuts in annual spending and/or tax increases to come. And as the Institute for Fiscal Studies has pointed out, this is actually a pretty disingenuous assessment, for it applies only to the middle two years of the next parliament, and doesn’t factor in the increased costs of the state pension, which have to be offset with further cuts elsewhere. Any realistic estimate puts the number a good deal higher – perhaps as high as £48 billion, which was the total suggested yesterday by the Financial Times.

What this means is that if it persists with the ring-fencing of health, education and overseas aid, the Government would – on the IFS’s analysis – need to cut an additional third off non-protected areas of spending. Even taking account of the additional, unspecified £12 billion of welfare cuts that the Chancellor has committed to, there would still have to be cuts of more than 25 per cent to everything from local authority spending to police, defence and transport.

All these numbers are, of course, only forecasts, based on supposition and extrapolation. Things may yet go the way David Cameron hopes. Given the way tax revenues are panning out, however, any surprises are much more likely to be on the downside than the up.

Throughout the whole of this parliament, the revenue side of the ledger has fallen a long way short of expectations, derailing all hope of achieving the necessary fiscal consolidation in just five years. Even with returning growth, revenues have continued to disappoint. Changes in the make-up of employment – with more low-paid and self-employed in the mix – have badly hurt expected income tax receipts.

Lower inflation should mean a return to a degree of real wage growth by early next year. Regrettably, this won’t much help income tax receipts, which need relatively robust nominal wage growth. Meanwhile, the Government thought it was being tough on spending when it announced that it was limiting some benefit increases to “just” 1 per cent a year. But with the inflation rate at only 1.2 per cent, the savings are going to be marginal.

On both sides of the ledger, low inflation and depressed nominal wage growth are further steepening the challenge of fiscal consolidation. If tax revenues can’t be made to rise, that leaves even more of the heavy lifting to be done by spending cuts. With all the low-hanging fruit already plucked, these are becoming progressively more difficult to achieve. As it is, departmental spending is destined to a return to a proportion of national income not seen since 1948 – with at least another 400,000 public-sector job cuts still to come.

Having lived through the inflationary Seventies, I never thought I would say this, but what the public finances really need is a good old fashioned bout of runaway wage inflation. That would at least get the tax take up. There is very little chance of it, as things stand. In Europe and beyond, all the pressures are the other way around.

Is the scale of cuts needed to deliver balanced budgets even possible? Yes, with sufficient political resolve. Unfortunately, this is likely to be in very short supply the other side of the election. Political consensus and stability is what’s required, but the polls point to the very reverse.

It’s even worse on the Continent, where traditional centrist politics seem to be in a state of complete collapse. If elections were held tomorrow, they might return Marine Le Pen to the French presidency. A party calling itself Podemos, which didn’t even exist 10 months ago, and whose absurd political agenda seems to be straight out of Russell Brand’s Revolution, would become the biggest political force in Spain. And the revolutionary Left would sweep to power in Greece. Even in Germany, the anti-euro Alternativ für Deutschland is fast gaining strength.

Unable to address its problems, Europe is sinking beneath a sea of popular rage and frustration. And with political instability comes economic calamity – if further calamity was indeed possible for a Continent already awash with it. As we look to the future, this is the big wild card hovering over the economic and fiscal outlook. Another storm is about to break, and we can only guess at its consequences.

Source: The Telegraph