When bond markets speak, governments tend to listen. Investors demand prudence, predictability and proof that countries can manage their public finances in a controlled manner. When an economy is booming and money is flush, there are calls for governments to spend more or cut taxes. When an economy hits the buffers, there are calls for restraint, to rein in expenditure and raise additional revenue.
Fiscal rules have become the new commandments of economic management, enforced by independent watchdogs whose job is to keep politicians honest.
As governments bow to these rules, a question looms: have the demands of fiscal rectitude gone too far? Somewhere along the way, the masters of the budget became its servants. What began as a sensible effort to rebuild trust and market confidence after the crash has morphed into something else entirely.
Protecting the public purse
For many European countries, budget rules have long been the norm and cause little controversy. In Ireland and the UK, they are a relatively new concept, born in the aftermath of the 2008 Financial Crisis. In Ireland, the Irish Fiscal Advisory Council (IFAC) was created to keep spending in check. In Britain, the Office for Budget Responsibility (OBR) performs a similar role, keeping a regular tally on deficits, debt and growth forecasts.
The economy needs stimulus, but the rules demand restraint
Both were created for the good reason of preventing politicians from playing fast and loose with the public purse. No one seriously disputes the logic. Prudence matters. Deficits must be watched and borrowing levels contained. Markets like guardrails and voters like reassurance. After the chaos of 2008-10, credibility became the ultimate badge of responsibility.
What started as a way to rebuild trust has now evolved into tension between governments and the very bodies established to oversee them. In Dublin, the Department of Finance is repeatedly warned by IFAC economists that each year’s budget splurge risks overheating the economy and fuelling inflation. Restraint is urged, and yet these warnings are politely ignored year after year. With each budgetary cycle, the danger increases. Yet the response from government is that in real life there is a need to spend, to build homes, expand infrastructure and fund the services a growing economy requires.
Britain, meanwhile, desperately needs to invest in vital services and cut taxes to revive a flagging economy, but is constrained by OBR forecasts and the requirement to meet fiscal rules. On paper, that looks sensible. In reality, it is suffocating. With growth stalling and public services crumbling, Chancellor Rachel Reeves finds herself boxed in by the same rules that were meant to protect fiscal stability. What the economy needs is stimulus, but the rules demand restraint.
Unbending rules
The systems designed to provide stability often fail to do so. Rules, after all, are easier to make than to interpret. They do not bend with circumstances, nor do they account for the messy, human business of politics and the evolving demands of economies and electorates. Britain and Ireland’s experience with their budgetary watchdogs is telling. The rules suit neither right now.
Fiscal prudence is a virtue, but it is not the only one
None of this is to dismiss the value of these institutions. IFAC and the OBR have brought rigour and transparency to public debate and economic management.
Fiscal prudence is a virtue, but it is not the only one. Discipline without discretion ignores the practicality that economics is as much about timing and confidence as it is about balance sheets. Watchdogs can warn, measure and advise. They can highlight risks and promote caution. But they cannot build houses, open hospital wards or spur investment and job creation. That still falls to the governments whom voters actually elect.
Bond markets may prefer governments that toe the fiscal line, and the creation of independent watchdogs has done much to restore credibility. There are times, however, when the rules must bend. Economies cannot always be run by spreadsheet – or by spreadsheet keepers. Growth, confidence and opportunity sometimes require governments to take risks, even when the referees are shaking their heads.
