Fund Manager View: Julian Chillingworth

Julian Chillingworth, CIO of Rathbone Unit Trust Management, on sharing the pain around as George Osborne unveils his first Budget.

George Osborne pulled no punches in his first Budget. There were few major surprises in his mix of public sector cuts and tax increases, as the spin machine had leaked most of the important changes.

Just to recap: the structural deficit is expected to be cut from 11% of GDP to 1% over five years – just about believable. Growth for this year is forecast to be 1.2%, and 2.3% next year. CPI inflation is forecast to run at 2.4% and 1.9% over the next two years respectively (2.7% this year). Public sector net borrowing of £149 billion is forecast to fall to £37 billion by 2014/15. A bank levy, which will be collected annually from 2011, will raise £2 billion a year and hit UK and foreign banks’ subsidiaries based in the UK, with an offset from the reduction in corporation tax to 24%.

Devil in the detail

What is commendable is Osborne’s protection of capital expenditure. Ratings agency Fitch has certainly given its approval, and gilts and Sterling have rallied in predictable fashion. However, the devil will, as usual, be in the detail around October when the public sector review is published. Only then will the credibility of this Budget and the coalition be put to the test.
The rise in VAT to 20% from January 2011 could see large ticket purchases pulled forward to this year, offering the economy a palliative in the short-term. Changes to national insurance for low-paid workers could also provide some relief to retailers. Capital gains tax will remain at 18% for basic rate tax payers, and rise to 28% for higher rate payers, whilst allowances will be indexed – all three measures broadly welcomed.

Benefits were always going to be attacked, although surprisingly, child allowance has escaped this time. The levy on banks has come in less than expected, and it’s is a coup for Osborne to have dragged in the agreement of the French and Germans. Early forecasts suggest a hit close to 5% of earnings for RBS, Lloyds, Barclays; the likes of HSBC and Standard Chartered are unlikely to feel the pinch. Osborne expects unemployment to peak at 8%, which we believe is too ambitious at this stage.

Another interesting development is the review of rules to annuitise at age 75, which could have some welcome implications for how savers broaden their horizons when considering their pensions.

On the surface then, a fair Budget, although its underbelly will only be revealed once public sector cuts are detailed in October where non-protected departments could be subject to cuts of up to 30%.

A fine balance

There is no denying the enormity of the problems facing the UK economy, but this remains one very fine balance between fiscal restraint and incentivising growth. Delivery is now all, and so long as Osborne can present a similar level of rationale behind his decisions, we could see gilts and sterling strengthen in earnest. All segments of the economy will bear some of the pain, but for this Budget to hold weight, the private sector must feed the economy, whilst the public sector shrinks. It’s the first step on a very long road ahead.