LONDON (Reuters) - The government may succeed in pushing through only half its planned public spending cuts, and will be forced to raise taxes to keep its deficit reduction strategy on track, a leading think tank says.
The prognosis from the National Institute for Economic and Social Research comes hours before finance minister George Osborne delivers his first Spending Review detailing how the cuts identified in his June budget will be dished out.
Osborne hopes spending cuts will account for around 80 billion pounds of the 113 billion pound fiscal squeeze he deems necessary to eliminate the government’s record budget deficit.
The think tank believes this ratio is unachievable, and reckons the government will end up raising taxes by 2 percent of GDP — the equivalent of more than 30 billion pounds a year — towards the end of its five-year term.
“The political reality suggests to me that the government will not be able to implement spending cuts on the scale planned,” said NIESR’s Ray Barrell.
“If you assembled 50 retired permanent secretaries in a room and asked them, they would admit that only 50 percent of the cuts are likely to be achieved.”
The think tank is also concerned that the government’s revenue projections, particularly those front property transactions, are too optimistic.
It estimates house prices are still 10-15 percent overvalued and will fall by 1 percent a year in real terms over the next five years while the government’s forecasts assume house price gains of 2 percent a year.
The government is hoping that a tight fiscal policy will allow the Bank of England to keep interest rates lower for longer, but NIESR said there were risks with that view.
“Fiscal policy looks excessively tight to me and could force the Bank of England to adopt a monetary policy that is too loose and which pushes up prices,” said Barrell.
“The mistake of the previous government was to have fiscal policy too loose. It could be that the current one has the same problem in reverse.”
The think tank forecasts that the combination of painful fiscal retrenchment and stubborn inflation means households face two consecutive years of falling disposable income.
It said growth in the second quarter of this year had been flattered by the inventory cycle and the recovery would remain fragile. GDP growth was likely to total 1.6 percent in both 2010 and 2011 — well below its trend rate — before rising to 2.0 percent in 2012.
It put the chance of the economy slipping back into recession next year at one in five, unchanged from its previous estimate three months ago.
Editing by Susan Fenton