Can Labor Tame The Boom Without Killing It?
After Prime Minister Tony Blair, Chancellor of the Exchequer Gordon Brown gets the most ink in Britain's new Labor government. And not all the stories about Brown are on the financial pages. The 46-year-old bachelor's brooding charm fascinates lifestyle writers. One journalist dubs the dour finance minister "the sex symbol of the government" and asks rhetorically: "In the Nineties, who doesn't want to be with a man who knows about money?"
What Brown knows about money is, however, the subject of intense speculation these days. Business is awaiting his first budget nervously. When it is unveiled on July 2, it will be a key test of the Blair government's credibility and economic direction. "This is the first big policy statement that could cause some controversy," says David Kern, chief economist at NatWest Group.
BUMPIER RIDE. The City wants Brown to cool down a rapidly overheating economy by slapping more taxes on consumers. Brown is inclined to do that, but Blair will probably nix any big levies on individuals, setting up pressure on the newly independent Bank of England to hike interest rates. Some economists think 10-year rates, already at 7.1%, could breach 8% before topping out. With 2.6% inflation, real interest rates approaching 5% could snuff out the current boom.
While that doesn't mean a recession is around the corner, the economy is in for a bumpier ride. Business may be irritated by taxes of between $5 billion and $8 billion on privatized utilities' windfall profits. If Brown also cuts tax credits on dividends, that could end Labor's honeymoon with business. And a rocky economy might stir up tensions between Blair and Brown.
The pair are old friends and allies--but also rivals. When they worked together reforming the Labor party, Brown was the senior partner. Yet when former leader John Smith died suddenly, Labor brass decided that Blair, with his family-man image, could win more votes. But Brown remains hugely ambitious. An austere workaholic, he is aiming to run a tight economic ship because he thinks that's the only way to achieve the investment needed to create the high-tech, high-growth economy that he and Blair both want.
Brown's entourage of advisers rivals Blair's Downing Street coterie. He insisted on drawing up a new budget to replace the one he inherited from the Tories. It presents another chance for Brown to shine--and to surprise, as he did when he handed control over interest rates to the Bank of England on his fourth day in office. Another tour de force that wins plaudits in the City would help Brown establish himself as the unquestioned No.2 to Blair. Right now, that slot belongs officially to Deputy Prime Minister John Prescott, an earthy former trade-union activist, whose job is to keep the lid on leftists among the Labor faithful.
BAD OLD WAYS. Brown won't have an easy time of it. He and his brainy young advisers are hog-tied by Labor's campaign pledges not to raise personal taxes or increase spending beyond levels set by the former Tory government last fall. If he doesn't spend liberally on public services such as health care and education, Brown risks taking the rap--as National Health Service waiting lists lengthen and Labor struggles to honor its pledges to improve education. With an eye on the markets, Brown is likely to tough it out. He will try to find private-sector, off-budget financing for new hospitals, the creaky London Underground, and other infrastructure that badly needs upgrading.
But the zooming economy is becoming a bigger worry than the danger of Labor's returning to its bad old tax-and-spend ways. Retail sales are rising at a 5.3% annual clip, while real estate prices in some parts of London are up 50% in a year. And members of Britain's building societies could be hot to spend their nearly $60 billion windfall. The cash comes as the mutually owned savings and loans convert to publicly owned banks. David Mackie, an economist at J.P. Morgan & Co. in London, estimates that the additional consumer spending will jack up economic growth by 1% this year, bringing it to a sizzling 4.5%.
Strong growth is a nice problem to have. Still, it's probably not sustainable, since the expected rate hikes are sending the pound sterling into orbit, which risks pricing British exporters out of lucrative markets and plunging Britain into the downside of its traditional boom-and-bust cycles. Now, it's up to Brown to deliver on his vow to break the pattern.