The UK economy is facing a “big question mark” over whether it can grow and cope with the next bout of severe austerity set to be delivered by chancellor George Osborne later this week, economists have said.
Mr Osborne will take to the despatch box this Wednesday to deliver his ‘emergency Budget’, with £12bn of cuts set to be announced.
The chancellor has made it clear he wants to achieve a budget surplus in what he calls “normal times”, but to do so he is likely to have to implement swingeing cuts and economists are unsure if the economy can sustain these and still grow.
James McCann, Standard Life Investments’ UK and European economist, said the Budget should have “interesting macroeconomic implications”.
“The austerity bite is going to be sooner and more painful than expected,” he said.
Capital Economics economists Roger Bootle and Jonathan Loynes agreed.
The pair wrote in a note that the economy still faces a “fairly sizeable renewed fiscal squeeze” and so there was “a big question mark over whether the economic recovery can take such a squeeze in its stride”.
While the UK economy is growing more strongly than it was when the coalition government took power in 2010, some are concerned cuts that are too deep could damage the recovery and thus affect the government’s ability to achieve a budget surplus.
Mr Osborne had hoped to balance the books already, but his attempt to rid the country of the budget deficit has fallen short so far.
The coalition did reduce the deficit from 10 per cent of GDP in the 2008-09 fiscal year to 4.8 per cent in the 2014-15 fiscal year, but this is short of the 2 per cent target Mr Osborne had hoped for by this date.
“The deficit is still high,” Neil Williams, chief economist at Hermes Investment Management, said.
“The 5 per cent of GDP headline deficit for 2014-15 was still the G7’s widest after Japan.
“This ratio is more than twice Japan’s when it limped into a ‘lost decade’ in the mid-1990s.”
Next week, economists are also expecting details on Mr Osborne’s new fiscal rule, which would put restrictions on the type of deficit a UK government could run and for how long.
Mr McCann said this information would be “really important” and if it was not constructed properly it could be “counterproductive”.
“If the rule provides restrictions on things like funding domestic infrastructure, that could hurt,” he said.
“It should be emphasised that in the long run infrastructure tends to pay for itself.”
In terms of sectors of the market that could struggle the most, Philip Lawlor, chief investment strategist at Smith & Williamson, said outsourcing companies, such as defence contractors and food providers, could have a tough time given they were often contracted by government.
What is Osborne’s rabbit out of the hat?
While economists have expressed some concerns about what George Osborne’s cuts could do to economic growth, they have also cited his ability to create a feel-good factor.