EY expects cautious revisions’ from OBR on Autumn Statement day

Uncertainty surrounding the nature of the UK’s departure from the EU will mean that the Office for Budget Responsibility (OBR) is likely to take a relatively conservative approach to downgrading the UK’s economic prospects over the next five years, according to an EY ITEM Club special report.

The EY ITEM Club Autumn Statement Preview outlines an approach from the OBR which would be likely to conclude that, with tax revenues running well behind where it had expected them to be in their March forecast, borrowing is likely to come in around £7.5 billion higher in 2016-17. The shortfall is mainly a result of disappointing receipts from income tax, National Insurance Contributions (NICs) and capital gains tax.

The OBR is likely to downgrade its forecast for GDP growth in 2017 from 2.2 per cent to between 1.25 per cent and 1.5 per cent - which would still be above the consensus amongst economists. Looking beyond 2017, the EY ITEM Club says that uncertainty surrounding the timing and nature of Brexit is likely to limit the extent of the OBR’s forecast revisions. However, even a relatively conservative downgrade to the forecast for the level of GDP in 2020-21 of 1.5 per cent over five years would increase the level of borrowing in 2020-21 by £25 billion.

Martin Beck, senior economic advisor to the EY ITEM Club, said: “In the eight months since the Budget the entire fiscal landscape has changed. The OBR faces a challenge in cutting through the post-referendum fog to produce a clear outlook for the UK economy. Given the degree of uncertainty, a cautious approach from the OBR looks likely.”

According to the report, despite the economy’s initial resilience following the EU referendum vote, the Autumn Statement could see the Chancellor taking steps to mitigate the risk of a slowdown in 2017 and reduce the burden placed on monetary policy in supporting the economy.

The report said that the Chancellor may move away from his predecessor’s commitment to an overall budget surplus and aim instead to balance the current budget. Relaxing the fiscal rule in this way would provide more scope for supporting fiscal policy and boost public infrastructure spending, EY ITEM Club said.

The Chancellor has already hinted that he favours an increase in infrastructure spending. He could formalise this by pledging to raise spending on net investment to 2 per cent of GDP in each remaining year of the current Parliament, according to the EY ITEM Club. The Chancellor may also try to stimulate private investment. While a further cut in the corporation tax rate seems unlikely, an increase in the Annual Investment Allowance to £1 million until the end of 2018 could be on the cards.

Given the risk of a weakening in consumer spending, the EY ITEM Club says that the Chancellor could be considering two options. The four-year freeze on working age benefits was originally announced in 2015 but the impact on families will be greater if, as expected, inflation picks up sharply in 2017. Therefore, the Chancellor may opt for a temporary halt until inflation has slowed. Another option would be a temporary reduction in VAT. However, this would be very expensive and the experience from the previous VAT reduction was mixed, so the EY ITEM Club think this option is unlikely to be pursued.

Finally, given concerns around the post-Brexit attractiveness of the UK as a location for financial services firms, the report says that the Chancellor may choose to accelerate the pace at which the Bank Levy is due to fall or cut the 8 per cent corporation tax surcharge paid by banks.

Jason Lester, EY’s Managing Partner for Tax, said: “The Chancellor may be faced with an economy currently performing better than many expected, but the clouds of a slowdown are gathering. Focussed interventions in the tax system directed at maintaining consumer demand as inflation picks up, and boosting investment, particularly in infrastructure, could deliver a much needed boost.”