Both the Bank of England and the UK Public Finances are having a Mad Hatters Tea Party

Subscribe Find an Adviser

Today brings the opportunity for us to find out not only the thinking of the Monetary Policy Committee of the Bank of England but also the state of play in UK public finances for the fiscal year 2013/14. Both of these should be reviewed in the light of the economic growth that the UK has achieved. If we look back to 2013 we see that economic growth averaged 1.7% or if you prefer the economy was 2.7% larger at the end of the year than it was at the beginning. To that we can now add this according to the NIESR (National Institute for Economic and Social Research).

Our monthly estimates of GDP suggest that output grew by 0.9 per cent in the three months ending in March after growth of 0.9 per cent in the three months ending in February 2014. This robust growth was relatively broad based.

So we advance on the public finances with the view that taxes should be on the up and if we add in the positive news and employment and unemployment that expenditure on social benefit should be lower. When the UK economy has slipped backwards these have combined to send the numbers astray very quickly so it is not unreasonable to see the reverse right now. Also there is food for thought for the Bank of England which is running an extremely expansionary monetary policy -0.5% Base Rates, £375 billion of Quantitative Easing, and the Funding for Lending Scheme- into what is now a phase of sustained economic recovery.

What next for the Bank of England?

The depressionary influence of the credit crunch is fading away and quite quickly at current rates of economic growth. From the NIESR again.

the level of economic output has almost regained its pre-recession peak (January 2008)

So the new monetary policy objective of “slack” is about to cross one threshold and of course it has already passed the redacted 7% unemployment rate threshold! Although of course the NIESR is happy to provide the MPC with another output gap bus to hop on.

a sizeable negative output gap remains

In case you are wondering how this works this is because there is a multitude of definitions of the “output gap” making it a flexible friend for fans of expansionary monetary policy. For example an extreme case would be to project forward since 2008 economic growth of 2.5% per annum as trend growth. We might then never catch up and you could argue for expansionary monetary policy for ever! Please do not laugh it has been tried by various organisations…

If we move to the detail of today’s MPC minutes we do see that the Bank of England is becoming increasingly confident about the strength of the UK recovery.

Bank staff’s central expectation of the final estimate of growth in 2014 Q1 had been revised up to 1.0%, with growth in the second quarter expected to be only a little weaker.

That is pretty much the central banking equivalent of the trumpeter for a cavalry troop signalling a charge. This has us wondering about whether monetary policy should remain so loose and expansionary. Oh and can anybody see a problem with this?

The availability of high LTV (Loan To Value) mortgages had been increasing as lenders introduced new products, some of which were backed by the mortgage guarantee component of the Help to Buy scheme.

Actually the Bank of England Funding for Lending Scheme has supported this too but I guess that slipped their mind! Also something else slipped their mind, remember all the official pronouncements that such loan equity mortgages were a bad idea? Perhaps such official statements have been redacted too not only from the media but from their memories too.

Such strong reports would normally be accompanied by either a tightening of monetary policy or plans to do so. However there has been one which is the rise and rise of the super soar away UK Pound Sterling.

The sterling effective exchange rate remained around 10% above its recent trough in March 2013.

Using the old Bank of England rule which in a theme for the day appears to have been redacted from many memories too this is equivalent to a 2.25% increase in UK Base Rates.

What about the UK Public Finances?

The presentation of these is rather akin to the Mad Hatters Tea Party these days.

“How puzzling all these changes are! I’m never sure what I’m going to be, from one minute to another.”

“Why, sometimes I’ve believed as many as six impossible things before breakfast.”

Actually such is the “flexibility” of the numbers these days there are six exceptional circumstances or if you prefer methodological changes in todays release which just shows how prescient Lewis Carroll was! Let me just quote you one example of the Tea Party being in full flow.

Swiss Tax Agreement: A payment of £4 million was made in March 2014 while the February 2014 payment was revised up from £4 million to £5 million.

Now back in December 2012 the Office for Budget Responsibility estimated to Channel 4 that this could reach £5 billion! Going to take quite some time at this rate is it not?

Very Slow Progress

The underlying situation can be summed up by this.

For the financial year 2013/14 public sector net borrowing excluding the temporary effects of financial interventions, the transfer of the Royal Mail Pension Plan and the transfers from the Bank of England Asset Purchase Facility Fund was £107.7 billion. This was £7.5 billion lower than the same period in 2012/13, when it was £115.1 billion.

If we look at this in the light of the economic growth we have had then this is clearly a disappointment. Frankly I hoped we could do better than £100 billion. Also you may note that 63% of the improvement came in a year end rush in March.

In March 2014, public sector net borrowing excluding temporary effects of financial interventions (PSNB ex) was £6.7 billion. This was £4.7 billion lower than in March 2013, when it was £11.4 billion.

So a year end rush was apparent here. I do hope that expenditure was not like a can kicked forwards onto 2014/15.

Austerity what austerity?

UK style austerity is apparently not all the media have cracked it up to be.

For the financial year 2013/14, central government accrued current expenditure was £640.2 billion, which was £9.1 billion, or 1.4%, higher than the same period the previous year.

So the best that can be said is that it was lower in real terms but with the official measure of consumer inflation now being 1.6% even that claim is extremely marginal.

What about tax revenue?

This is performing solidly.

This is £19.9 billion, or 3.7% higher than the previous financial year.

Indeed one area has put in a stellar performance.

Stamp duties (on shares, land & property) in March 2014 were £1.1 billion, £0.3 billion or 44.5% higher than in the same month last year.

For the financial year 2013/14, Stamp duties were £12.6 billion. This is £3.4 billion or 37.2% higher than in the previous financial year.

What about the national debt?

Here I am afraid the Mad Hatters Tea Party is really in full flow! So take your pick from these offerings.

The public sector net debt including the temporary effects of the financial interventions, at the end of March 2014 was £2,216.8 billion (132.4% of GDP), this compares with a public sector net debt excluding the temporary effects of financial interventions of £1,268.7 billion (75.8% of GDP).

Clear as mud? Well I guess if you think that 75.8% is only “slightly different” to the 89.6% of GDP reported by Eurostat I guess it is all pretty much of a muchness!


We see that the UK economy has strong upwards momentum right now which frankly means that the policy of Forward Guidance promising lower interest-rates for longer is the wrong one. At the moment a brake is being applied to the UK economy by the strength of the UK Pound which is equivalent to a rise in Base Rates of 2.5% from the lows of March 2013. This has meant that so far it has tightened Bank of England policy for it but it is now time for it to face the prospect of having to act itself. Regular readers will be aware that I have been arguing for a stop to the rolling over of QE maturities since last autumn. If it had been applied it would have been another gentle brake on things.

Meanwhile the CBI industrial trends survey tells us this.

Business optimism among manufacturers saw its sharpest improvement since 1973, on the back of strong growth in orders at home and abroad. That’s according to the latest CBI quarterly Industrial Trends Survey.

It makes Forward Guidance of Mark Carney and the Bank of England look rather like a Mad Hattters Tea Party does it not?

A happy St. George’s Day to you all and also happy 450th birthday to William Shakespeare.




This entry was posted in Bank of England, Forward Guidance, General Economics, Mark Carney, Public finances, Quantitative Easing and Extraordinary Monetary Measures, UK Inflation Prospects and Issues and tagged , , , , . Bookmark the permalink.
Subscribe Find an Adviser
  • Caratacus

    If one pauses to remember that all Government spending is included in the GDP figures it becomes even more of a Mad Hatter’s Tea Party … particularly when the current Government is spending more even than the last profligate administration.

    Regarding the “National Debt” (it is mine apparently, although I seem to have mislaid the regular statements which I must have received as a debtor) we must also take into account unfunded liabilities. The total figure tends to jump alarmingly when they are all added in and distracts somewhat from the illusory ‘good news’ stories which seem to be surfacing of late – and no doubt will continue to do as we approach the next election!

  • Anonymous

    Great column, Shaun.

    In the 1990s in Canada there was a similar controversy over the size of the potential output gap. Pierre Fortin, an economics professor at
    UQAM, published a paper called “A Deficit Strategy for Faster Growth”

    He used a crude straight-line method very similar to what you described (assume a 3.0% or 3.21% growth rate from 1989 forward, 1989 being
    the last year prior to the recession) to obtain an output gap of 10.5% or
    11.2%. Finally, though, he settled for a lower estimate of 8.0%. All of these estimates were higher than the Bank of Canada’s estimate, which was a little under 4%. I remember speaking to an economist at the Bank of Canada at the time. She regarded Professor Fortin’s methodology as antiquated, and it certainly seemed to show a lot more slack than the unemployment rate would suggest.

    At that time the Bank of Canada was in the fourth year of its inflation targeting regime and interest rates had been quite high to bring down inflation, which had been 6.9% in January 1991. Not just Professor Fortin,
    but other economists trying to sell the idea that there was a huge potential
    output gap were also promoting a much looser monetary policy.

    Andrew Baldwin

  • Anonymous

    Is the proceeds of the sale of Lloyds shares by HMG the main improvement to March 2014 ?
    Now if only stamp duty was applied to bank casino operations we could really improve things and all party – mad hatters included!

  • Anonymous

    Hi Caratacus and welcome to my part of the blogosphere

    There are a lot of problems with the measurement of government expenditure as part of GDP. About a year ago I gave some technical advice to the author of the book linked too below on inflation pre publication of it. As part of it Pete Comley had looked at the deflator (inflation measure) for the government sector in the GDP statistics and concluded that at best it was something of a shambles.

    I have in the past published the numbers for the national debt for the whole of government accounts which are larger than any quoted above.

  • Noo 2 Economics

    Isn’t this having exactly the intended effect? “Lower for longer” rates encouraging business to expand and with it GDP whilst the (imo bizarrely) rallying GBP helps keep exports more expensive to, as you say, put a brake on things without Carney having to do anything other than keep repeating his “lower for longer” mantra.

    If your’e worried about things becoming unsustainable, overheating and resulting in higher inflation, I know the gruesome twosome Carney/Osborne aren’t, indeed, I think this may well be their ultimate aim with nary a thought to the consequent crash that must come.

    No, I would say everything is going to plan for the gruesome twosome.

  • Anonymous

    Hi Andrew

    Whilst a concept like the “output gap” sounds like an objective measure it is in fact a subjective one that is open to manipulation. I am sorry that this trick was played on Canada and can only offer the solace that the same lack of sophistication is often on display in the UK! This is in spite of the fact that “output gap” inspired inflation forecasts proved completely wrong post credit crunch in the UK.

    I was contacted a while back about the New Zealand economy asking for my thoughts on yes you have guess it a claimed output gap there too..

  • Anonymous

    Hi Chris

    I wondered that too so I did some investigating into it.

    “The sale of Lloyds Banking Group shares in March 2014 reduced the public sector net cash requirement by £4.2 billion.”


    “The sale of the shares does not impact on the public sector net borrowing because it is a financial transaction.”

    So not to the numbers I quoted which were partly affected by a bit of a year end squeeze I think.

    As to the National Debt matters get to that Tea Party again.

    “The impact on public sector net debt of the most recent share sale has not been fully implemented in March 2014 as it is affected by the National Accounts Classification of the Lloyds Banking Group.”

    The September 2013 sale did though as we go through a looking glass.

  • Anonymous

    Hi Noo2

    I thought that you were of the opinion of this on official UK policy

    As to the policy I think that the rising value of the UK pound was not expected but has done the UK a favour in my opinion. We have had plenty of times when its value has been against us but for once we have struck lucky. I think that Mark Carney (my “dark side” theory) has decided that open mouth operations against it are likely to be futile, something which he might pass on to the ECB!

    Does anybody actually believe that individuals and businesses take much or even any notice of the promises of Forward Guidance?

  • Caratacus

    Thanks for that Shaun. I do not pretend to have any great knowledge of finance or economics, but I am profoundly and sadly aware of the capacity for bare-faced falsehood and misrepresentation by the ‘great and the good’ in every single sphere of activity with which they are engaged.

    It is quite clear to me that the use of inflation – and quite probably hyper-inflation – has already been settled upon as the method by which our enormous debt may be whittled down to understandable proportions. Whether the majority of our MPs are aware of this is quite another matter, of course …

  • Anonymous

    I think the inflationary period was when housing tripled. That was when the money entered the economy. Since then the likes of QE are simply back-filled the defaults on this money supply to prevent a deflationary collapse.

    They need inflation to clear the debt but the demand is collapsing. Why are we here? Because the UK consumes more than it produces since well before Nu Labour. That is the underlying reality whatever the accounting games. I think they won’t get out of this hole.

    With the boomers moving on to the next world they are struggling to keep demand for debt at the same level. Going Japanese only without social cohesion or a manufacturing base.

  • Anonymous

    NZ economy, output gap ???

    when NZ’s best and brightest are
    unemployed or underpaid they immigrate for better pay in Australia, the
    USA, Europe etc. Myself included. So I’d suggest an NZ output gap is
    nonsense or fantasy.

  • Anonymous

    Certainly the rate of housing price rises should have alerted the chancellor of the exchequer that something was amiss. Unfortunately he was too busy boasting how he had “eliminated boom and bust”

  • Max

    Mark Carney and Merv ‘the Swerv’ King get paid handsomely whatever they do. they are devious fraudsters, adept at manipulating figures to mean what they want. Later on , when things go wrong, they show quotes of how they warned everyone and it was not their fault at all, even though they were in charge of maintaining price stability.

    Should be on trial for treason.

  • Anonymous

    Agreed, my point is current QE is backfilling and won’t be inflationary. They wish it were. They are pushing on a string. The boomers took more credit, now they can’t give it away. Party trick over, end game time.