Setting the fiscal rules: How the next government should handle investment, debt and the deficit
Is now the right time to cut the deficit? How should investment spending be treated? How quickly should debt be reduced? Should the government target debt or the deficit?
The nature and severity of policies on public debt, deficit reduction and investment are likely to draw some important dividing lines between the major political parties ahead of the next general election. This short briefing paper reassesses the case for increasing investment, reducing debt and closing the deficit in light of the current government's progress over the past four years, and the UK's changing economic circumstances.
Assuming that there are no major shifts in the economic and fiscal outlook between now and May 2015, and also that interest rates are likely to rise during the next parliament, we propose the following fiscal targets for the next government:
- The ratio of public debt to GDP will be reduced to 70 per cent of GDP by 2025/26.
- Net investment spending should be increased – perhaps to 2 per cent of GDP by 2020/21 – and subsequently not fall below this level.
- Public sector net borrowing, as a percentage of GDP, will be reduced to 1.0 per cent in 2020/21. This will be achieved by cutting it in even steps over the five-year period.
- If the economy is forecast to grow rapidly or slowly, the pace of adjustment in any year could be increased or decreased.
- The OBR would, as now, judge whether the government's plans were consistent with it achieving its fiscal rules. If the government judged that the growth outlook merited a short-term change in the pace of deficit reduction, the OBR would also be required to say whether or not it was acting appropriately.