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Tuesday, December 21, 2010 8:15 PM


UK Budget Deficit Hits Record High; Cut in Public-Sector Pensions 'Non-Negotiable'; Cameron Still Too Generous


In the UK, unions are howling over Prime Minister David Cameron's plan to cut public-sector pensions. However, something has to be done as the UK budget deficit balloons to record high

Britain's public borrowing unexpectedly hit a record £23.3bn in November, the Office for National Statistics (ONS) said on Tuesday.

The figure, which excludes financial interventions by the Government, was a marked increase on the £17.4bn a year earlier and beat the previous highest monthly borrowing record of £21.1bn in December 2009, according to the official figures.

The bigger-than-expected figure will be seen by Chancellor George Osborne as supporting the need for recent austerity measures, which include an £81bn package of spending cuts and a hike in VAT next year.

Jonathan Loynes, chief economist at Capital Economics, told PA: "Given that the economy has expanded rather more quickly than anticipated over recent quarters, we might have expected somewhat lower current borrowing, even allowing for the usual lags."

The unprecedented £5.9bn leap in borrowing was mainly due to Government spending – up 10.8pc on last year. EU contributions and spending on health and defence were particularly high last month, the ONS said, while VAT receipts dipped by 0.1pc.

Net debt is now £863.1bn, which represents 58pc of gross domestic product (GDP) – another monthly record.
Cut in Public-Sector Pensions 'Non-Negotiable'

No doubt soaring deficits were on Cameron's mind when he proclaimed Cut in Public-Sector Pensions 'Non-Negotiable'.
The Government has ruled out a change of heart on raising public sector pensions in line with the CPI measure of inflation, saying the matter was "non-negotiable".

The Government announced in June's emergency Budget that it intended to scrap the link between public sector pensions and the retail price index (RPI) in favour of the consumer prices index (CPI). As the CPI tends to be lower than the RPI, the effect is likely to be a reduction in pensions.

Mark Serwotka, the head of the Public & Commercial Services Union (PCS), said that when he asked David Cameron at the Downing Street meeting about the switch to the CPI, the Prime Minister "said flatly it was non-negotiable".

The switch to the CPI has also been attacked by the Royal Statistical Society. Jill Leyland, its vice-president, said that, while the index was “acceptable for macroeconomic purposes”, the RSS did “not believe its coverage is generally appropriate for inflation compensation purposes” in areas such as pensions.
CPI vs. RPI

Inquiring minds are investigating the beef. Please consider the following chart and commentary from the UK Consumer Price Index Statistical Bulletin.
RPI Compared to CPI



All items Retail Prices Index (RPI)

In the year to November, the all items RPI rose by 4.7 per cent, up from 4.5 per cent in October. The RPI 12-month rate between October and November has therefore increased by 0.2 percentage points compared with an increase of 0.1 percentage point in the CPI 12-month rate between these two months.

The slightly larger increase in the RPI 12-month rate is mainly due to air transport. Air transport has a far lower weight in the RPI than the CPI so the downward effect from this component has much less of an impact on the RPI.

CPIY vs CPI-CT



Consumer Prices Index excluding indirect taxes (CPIY)

The CPIY is the same as the all items CPI except that it excludes price changes which are directly due to changes in indirect taxation (such as the increase in air passenger duty, which came into effect from 1 November 2010).

In the year to November, the CPIY rose by 1.6 per cent, unchanged from October. The unchanged CPIY 12-month rate between October and November compares with a rise in the CPI rate of 0.1 percentage point during the same period. The CPIY has not risen in line with the CPI in part because air passenger duty is excluded from CPIY: the CPIY is therefore unaffected by the November 2010 increase.

Consumer Prices Index at constant tax rates (CPI-CT)

The CPI-CT is the same as the CPI except that tax rates are kept constant at the rates they were in the base period (currently January 2010).
Cameron Too Generous

Going forward I have no opinion as to what the UK CPI is going to do relative to the RPI. However, a quick look at the charts shows Cameron is too generous, especially in light of budget deficits mentioned above. How about the lowest of CPI-CT, CPIY, CPI, or RPI with a maximum cap?

Since that is likely still too generous, what about something even more creative such as using the lowest point in the year of any of the above measures. For 2008, that would have been -1.5%, a real reduction, not a fake one as is being debated now.

If it comes down to cutting public-union pensions or raising the VAT, the decision is not close. Cut pension benefits.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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