Fiscal Discipline and its Limits

Rules-based economic policy regimes seek to bind governments, securing budgetary discipline and enshrining fiscal sustainability. Fiscal rules regimes in theory introduce fiscal discipline by establishing the limits of government spending deemed compatible with maintaining the public finances on a sustainable path. Fiscal headroom is a way to describe the policy space available to governments up to the spending limits indicate by the fiscal rules regimes, and adjudicated on by the fiscal council. Fiscal headroom describes the space between teh government's current fiscal stance and the ceiling or limit imposed by the fiscal rule. It is thus a contingent, context specific assessment of a countries’ fiscal room to manoeuvre, relative to its fiscal rules. This affects the capacity of governments to engage in active or expansionary fiscal policy.

The Chancellor's spending decisions are sensitive to what OBR forecasts reveal about the anticipated size of fiscal space. Indeed, there is often an astonishing degree of policy fine-tuning to achieve very precise projected spending levels relative to forecast outcomes. There is a somewhat mechanical link between what the OBR produces in its forecasts, and potentially what the Chancellor decides to spend.

The introduction of an independent fiscal council, alongside fiscal rules, improved fiscal discipline and the sustainability of UK public finances, but only up to a point. There is, the OBR underline, an asymmetry in Chancellors’ reactions to unexpected changes in the amounts of monies the forecast inevitably periodically throws up. When there are positive surprises, the Chancellor spends the additional funds available. When the forecast indicates that less money than anticipated is available, the government tends not to change its spending plan to cut its cloth to suit its purse. The OBR points this out, and comments upon this distinctive form of deficit bias with an air of opprobrium. These asymmetric Chancellor reactions to variations in fiscal aggregates arising from OBR forecasts indicate some of the limits to technocratic fiscal governance.

Independent expert oversight of a rules-based fiscal regime did not deliver the levels of discipline or kind of fiscal rectitude hoped for by neo-liberal theorists dreaming up new macroeconomic policy rules. The practicalities of rules-based technocratic economic governance are less mechanistic, and more discretionary than they appear at first sight.