Council opinion of 8 March 2005 on the updated convergence programme of the United Kingdom, 2003/04 to 2009/10
Date: 2005-03-08
Institutions: Council of the European Union
Subjects: United Kingdom, stability programme

19.7.2005

EN

Official Journal of the European Union

C 177/19

COUNCIL OPINION

of 8 March 2005

on the updated convergence programme of the United Kingdom, 2003/04 to 2009/10

(2005/C 177/07)

THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community,

Having regard to Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of the surveil-
lance of budgetary positions and the surveillance and coordination of economic policies (1), and in particu-
lar Article 9(3) thereof,

Having regard to the recommendation of the Commission,

After consulting the Economic and Financial Committee,

HAS DELIVERED THIS OPINION:

(1)

(2)

(3)

On 8 March 2005 the Council examined the updated convergence programme of the United
Kingdom, which covers the period 2003/04 to 2009/10. The programme complies partly with the
data requirements of the revised ‘code of conduct on the content and format of stability and conver-
gence programmes’. Data relating to total expenditure and revenues, while based on ESA95 compo-
nents, use differing aggregation methods to the harmonised measure; balances are not affected (2).
The update also continues to treat the receipts from the sale of the UMTS spectrum as an annual
income stream, rather than as the sale of an asset. Accordingly, the United Kingdom is invited to
achieve full compliance with the data requirements.

The programme contains two different scenarios for the macroeconomic and budgetary projections:
a central macroeconomic scenario; and a lower growth scenario based on an assumption of trend
growth a quarter-percentage point weaker than in the central forecast; the latter underlies the public
finance projections. The lower growth scenario is thus considered as the reference for assessing
budgetary projections, and reflects broadly plausible assumptions. The scenario envisages real GDP
growth in 2005 of 3 %, only slightly lower than the growth of 3¼ % in 2004, before slowing to
2¼ % by 2007/08. On the basis of currently available information, GDP growth in 2005 could be
slower than that forecast. However, over the medium term, the trend growth assumption underlying
the public finance projections is likely to prove a cautious estimate. The programme's projections
for inflation also appear realistic.

The UK's fiscal policy framework is based on two domestic fiscal policy rules for the public sector:
the ‘golden rule’, which aims to ensure that, over the course of the economic cycle, the government
borrows only to finance net investment, and not to fund current expenditure; and the ‘sustainable
investment rule’, which aims to keep public sector net debt at ‘a stable and prudent level’ below
40 % of GDP over the cycle. Within this framework, the updated programme projects a reduction in
the deficit from an estimated 3,2 % of GDP in financial year 2003/04 to below the 3 % reference
value in 2004/05 (the financial year being the reference period for assessing the UK's public finances
under the Stability and Growth Pact). Thereafter the update projects a further gradual reduction in
the deficit over the medium term, to a level of 1,7 % in 2008/09. The expenditure ratio continues
to increase, in line with the government's policy priorities, but the expected increase in the revenue
ratio would, if realised, lead to an overall improvement in the general government balance. Within

(1) OJ L 209, 2.8.1997, p. 1. The documents referred to in this text can be found at the following website:

http://europa.eu.int/comm/economy_finance/about/activities/sgp/main_en.htm

(2) The UK authorities provided helpful explanations of the data in technical discussions with the Commission. Had
these technical explanations been referred to in the update, the programme would have been considered to be
broadly compliant with the data requirements of the revised ‘code of conduct on the content and format of stability
and convergence programmes’.

C 177/20

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Official Journal of the European Union

19.7.2005

the overall level of expenditure, a significant programme of public investment is being implemented,
which aims to lift general government net investment from 1,9 % of GDP in 2004/05 to 2,4 % in
2007/08. Relative to the 2003 update, deficit projections for both this financial year and next have
been revised upwards; beyond 2005/06, however, the medium-term projections contained in the
update represent a slightly more rapid consolidation of the public finances than those in the
previous update.

There is a clear risk that the budgetary outcome could be worse than projected in the programme in
the short term. In both the short and medium terms, risks are present regarding the extent to which
the recovery in corporation tax continues. Especially in the period of slower projected expenditure
growth from 2006/07, government departments will need to adjust to tighter budgets, and thus
might make use of accumulated unspent balances. From 2006/07, however, negative risks are coun-
tered by the relatively cautious macroeconomic projections.

In view of this risk assessment, the budgetary stance in the programme does not seem to provide a
sufficient safety margin against breaching the 3 % of GDP deficit threshold with historical macroeco-
nomic fluctuations at any point during the projection period. However, given the decreased volatility
of the UK economy in recent years and the cautious approach on the growth assumptions under-
lying the public finance projections, the risk appears small in the outer years. It is insufficient to
ensure that the Stability and Growth Pact's medium-term objective of budgetary position close to
balance is achieved by 2009/10. At the same time, however, it has to be noted that the debt ratio is
relatively low and the projected balances are affected by the implementation of the above-mentioned
significant programme of public investment.

The gross debt ratio is estimated to have reached 39,5 % of GDP in 2003/04, well below the 60 %
of GDP Treaty reference value. The programme projects the debt ratio to increase modestly by less
than two percentage points over the period to 2009/10.

The UK appears to be in a relatively favourable position with regard to the long-term sustainability
of the public finances, despite the projected budgetary cost of an ageing population. The relatively
low debt-to-GDP ratio and the strong emphasis that the UK authorities have placed, in existing poli-
cies, on long-term sustainability of the public finances are positive in this regard. Higher age-related
expenditures cannot be excluded as there is a possibility of insufficient provision of private pensions
which might have implications for the public finances, but the authorities are introducing the
Pension Protection Fund, from April 2005, to protect members of private defined-benefit schemes
where the sponsoring firm becomes insolvent and there are insufficient assets in the scheme to meet
its liabilities. These measures are welcome, though their effectiveness is yet to be tested. The UK's
relatively low tax ratio should ease the accommodation of any imbalances that may arise in the
longer term.

The economic policies outlined in the programme are partly consistent with the country-specific
recommendation on the public finances addressed to the UK in the 2004 update of the BEPGs,
namely that the UK was recommended ‘in endeavouring to avoid the occurrence of an excessive
deficit, to improve the cyclically-adjusted position to consolidate the public finances, consistent with
a budgetary position of close to balance or in surplus in the medium term’. There is a clear risk that
the budgetary outcome could be worse than projected in the programme in the short term. More-
over, the planned slight expansionary stance in 2005/06 and the fiscal stance over the medium term
are not fully in line with the recommendation in the BEPGs.

(4)

(5)

(6)

(7)

(8)

In view of the above assessment, the Council is of the opinion that the United Kingdom should

(i) ensure that the deficit is below 3 % of GDP in line with plans, and

(ii) improve the cyclically-adjusted position to ensure that a budgetary position close to balance or in

surplus is achieved and maintained over the medium term.

19.7.2005

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Official Journal of the European Union

C 177/21

Comparison of key macroeconomic and budgetary projections

1. Headline macroeconomic forecast

Real GDP — headline
forecast
(% change)

CP 12/2004

COM

2004

3¼

3,3

2005

3–3½

2,8

2006

2½–3

2,8

HICP inflation
(%)

CP 12/2003

3–3½

3–3½

2½–3

CP 12/2004

COM

CP 12/2003

1¼

1,4

1¾

1¾

1,9

2

2

2,0

2

2007

2008

2¼–2¾

n.a.

n.a.

2

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

n.a.

2. Macroeconomic forecast underlying the

2004/05

2005/06

2006/07

2007/08

2008/09

public finances

Real GDP — public
finances (2)
(% change)

HICP inflation
(%)

General government
balance (4)
(% of GDP)

Primary balance (5)
(% of GDP)

Cyclically-adjusted
balance
(% of GDP)

Government gross debt
(% of GDP)

CP 12/2004

COM (3)

CP 12/2003

CP 12/2004

COM (3)

CP 12/2003

CP 12/2004

COM (3)

CP 12/2003

CP 12/2004

COM (3)

CP 12/2003

CP 12/2004 (1)

COM (3)

CP 12/2003 (1)

CP 12/2004

COM (3)

CP 12/2003

3¼

3,3

3¼

1¼

1,4

1¾

– 2,9

– 2,8

– 2,7

– 0,9

– 0,9

– 0,5

– 2,8

– 2,7

– 2,4

40,9

40,4

40,2

3

2,8

2¾

1¾

1,9

2

– 2,8

– 2,6

– 2,5

– 0,7

– 0,6

– 0,4

– 2,9

– 2,4

– 2,4

41,8

40,9

40,8

2½

2,8

2½

2

2,0

2

– 2,3

– 2,4

– 2,2

– 0,2

– 0,4

n.a.

– 2,3

– 2,1

– 2,2

42,4

41,2

41,1

2¼

n.a.

2¼

2

n.a.

2

– 2,1

n.a.

– 2,1

– 0,1

n.a.

n.a.

– 2,0

n.a.

– 2,0

42,8

n.a.

41,4

2¼

n.a.

2¼

2

n.a.

2

– 1,7

n.a.

– 1,9

n.a.

n.a.

n.a.

– 1,6

n.a.

– 1,8

42,8

n.a.

41,5

Note:
(1) Commission services calculations on the basis of the information in the programme.
(2) GDP forecast underlying the authorities' projections for the public finances; based on an estimate of trend growth one-quarter percen-

tage point below the authorities' central view.

(3) Commission data are on a calendar year basis (for example, calendar year 2004 corresponds to financial year 2004/05).
(4) The UK authorities include, in their projections for the general government balance, annual receipts of around £1.0 billion from the
sale of UMTS licences in 2000. Adjusting for this, to bring the projections onto an EDP basis, has the effect of subtracting around
0.1pp from the balance (i.e. increasing the deficit) in each year. All data shown in this table are given after this adjustment, made by
the Commission services, to the data in the update.

(5) The authorities provide primary balances excluding net interest rather than only interest payments as done by the Commission.
Figures shown are as recalculated by the Commission services, based on the data reported in Table 4.4 of the programme update.

Sources:
Convergence programme (CP); Commission services autumn 2004 economic forecasts (COM); Commission services calculations