Relevance lies in the style rather than substance

The incoming Irish government can learn from Gordon Brown's latest budget, writes Danny McCoy

An interesting UK budget for Ireland yesterday, not in what was done but in the way that they did it. Time was when the substance of a UK budget, as unveiled by the Chancellor of the Exchequer Mr Gordon Brown, would have very significant and direct consequences for the prospects of the Irish economy.

Indeed, an important element in the kick-start for Irish economic fortunes in the late 1980s can be traced to the boom budgets introduced in the UK by the then Chancellor Mr Nigel Lawson in 1987 and 1988 which resulted in a surge in exports to meet the rapidly expanding British market.

While the relative importance of the UK as a destination for Irish exports has since declined, it still remains our largest single trading partner and one of the largest economies within the EU, so the substance of its budget still matters. However, the actual process rather than the substance of the budget may have more resonance for the Irish economy at this juncture.

In terms of the UK economy, the announced budgetary measures, while couched in stipulations of prudence and fiscal stability, will be stimulatory, steering the economy above its revised trend growth rate of 2.75 per cent. The UK growth rate is expected to rise from around 2.5 per cent this year towards 3.5 per cent in 2003 and returning to trend growth from 2004 onwards. This is a favourable prospect for the Irish businesses selling into this expanding market. The underlying public finance position in the UK had already been deteriorating as tax revenue growth had fallen below expectations last year given the international downturn. This budget has announced a substantial increase in public spending, concentrated in particular on the health service, financed by higher social insurance rates and increased borrowing.

These measures mean that the underlying fiscal position has deteriorated further but can still be considered sound and consistent with the Code for Fiscal Stability that the government set out in 1998 in the form of two fiscal rules. The first is the so-called "golden rule", now entering the lexicon of Irish politics, that over the economic cycle, the government will borrow only to invest and not to fund current spending. This commits the government to run a surplus on the current budget, which this budget continues to do, albeit a smaller one. The second rule is the "sustainable investment rule" which is that over the economic cycle the ratio of net public sector debt to output will be set at a stable and prudent level currently defined as 40 per cent. Again, while reverting to increased borrowing, the Chancellor was able to satisfy this rule in the budget by coming in under target as a result of more aggressive actions taken in previous years.

The demonstration effect provided by the present budgetary process in the UK will not be lost on the Irish political system given the similarity of the public finance positions at present. The UK government in its first post-election budget, following up on its commitment for substantial and sustained funding to priority public spending on health and public investment, has increased effective taxation through rises in both employers and employees' social insurance contributions as well as resorting to increased borrowing. While doing this, it can still wear the cloak of prudence and far-sightedness under the terms of its own fiscal rules. The incoming Irish government is likely to face a similar task by the end of the year and may not be as well equipped in terms of the process.

An interesting element in the Chancellor's speech yesterday was the rationale advanced for how to finance the large injections planned for the National Health Service (NHS). The decision made was to eschew the use of hypothecated taxes to fund the NHS on the grounds that such revenue streams would be subject to fluctuation in the economy's performance and may not provide the necessary sustained stream of funding that long-term planning would require. Instead, the option taken was to fund from the general public purse by higher social insurance rather than through encouraging private health insurance, for instance. A lesson that might be taken from this is that this UK government finds it useful to tie its hands with rules for broad public finance terms but not for specific issues. This may have been learned from its experience with the well-intentioned but politically awkward fuel tax escalator that was ditched in the last budget. Watch and learn.

• Danny McCoy is an economist at the Economic and Social Research Institute