The cuts to public spending announced in today's spending review were well heralded in advance. That said, the expectations management of the government has not been terribly sophisticated - there is no room for celebration that the cuts have turned out to be less severe than feared.

The cuts amount to £81 billion per year by 2014-15. This is in addition to £29 billion additional tax revenues that the government hopes to bring in from policies announced earlier. This will much more than wipe out the structural deficit (on any reasonable calculation of what the structural deficit is), and suggests that the government is seeking to leave itself scope for tax cuts later in the parliament. Unfortunately the economy needs the breaks (and certainly not the brakes) now, not in four years time.

The phasing of the cuts is gradual - with around £20 billion extra being taken off the total spend in each of the next four years. In view of the current fragility of the economy a more phased ramping up of the cuts would likely have been prudent. It is not clear that the patient can easily stomach the medicine in the immediate future - we should now expect growth (if indeed there is to be any growth) to be very sluggish indeed over the medium term.

Since cuts of around £80 billion were heralded in the emergency budget, none of the above is terribly new. What is new is the detail about where the cuts will come from. Of the really big spending departments, the hardest hit are to be local government and (as part of the Business, Innovation and Skills budget) the universities. For the latter, the increase in tuition fees proposed by last week's Browne report serves as a useful stealth tax. For the former, the cut will have to be managed by people outside central government. Easy targets, then, that allow the policy makers to say there is a plan when in fact the plan is to let others work out a plan.

Health spending has been protected, as (largely) has education (below the tertiary level). These would, of course, have been tough targets.

A total of almost half a million public sector jobs are set to disappear. The government hopes that the private sector will grow to compensate for this, and cites the forecasts of the Office for Budget Responsibility as evidence. It will be interesting to see if the OBR continues to be so sanguine as time unfolds. I see little reason to share their optimism.

After rising somewhat in August, consumer confidence in September continued its downward trajectory. This should be seen as further evidence to suggest that caution is needed before cutting back too fast on public spending.

The plethora of stories about the future of higher education funding in the UK is multiplying fast, as we await publication of the Browne reivew on 12 October. Over the weekend, it appeared that the interest rate charged on loans would vary positively with graduates' incomes. The media today are full of a somewhat simpler proposal - namely that all but those on the lowest incomes would pay a flat rate of interest.

If, as seems likely, the Browne review recommends either the removal of the cap on tuition fees or a substantial rise in the cap, then charging a flat interest rate equal to the market interest rate would be sensible. Removing the cap (or raising it substantially) gives universities the right to set their own fees for undergraduates - and, since these fees are currently paid upfront by the government with students repaying them using a subsidised loan, this has implications for government expenditure. In effect, the co-existence of a free market in tuition fees and subsidised interest rates means that government would cede control of its own spending. Given its stance on the budget deficit, the current government is hardly likely to do that.

If the cap is removed (or substantially raised) and market interest rates are charged on student loans, the problem is largely solved. To be sure, the government would need to find the money to pay the fees upfront. But, with market interest rates being charged, it could pass this problem on to the private sector. Government could bundle together individual students' debt, and sell packages of the debt to the banks. It needs to do so at a discount in order to make the package attractive, but, with a real interest rate, the discount would need to be much smaller than it is at present.

In 10 days time, we will know the outcome of the comprehensive spending review. Cuts of the order of 25% have been mooted as the government attempts to tackle its budget deficit. It is not clear where the 25% figure comes from - government spending is currently running at around £660 billion per year, and a 25% cut in this would more than wipe out the entire deficit - not just that part of the deficit that is 'structural'.

Around a half of the deficit is due to the shortfall in economic growth over the years of recession and early recovery. During downturns, the government's revenues from tax automatically fall, and government spending rises - both because benefit payments increase and because discretionary policies are put in place to stimulate the ailing economy. This bias towards deficit in a recession is not a long term problem, and that part of the deficit that is due to such factors is not part of the 'structural' deficit that the government is aiming to cut.

It seems, therefore, that the 25% figure is a rather crude attempt at expectations management. At least, one hopes so.

The latest noises about the reform of higher education funding in the UK suggest that the government is considering a move to charge higher interest on student loans to those graduates in higher earning groups.

A side-effect of such a scheme would be that, at a certain level of income, graduates would take home less pay if they worked more. At the trigger point for the higher interest rate, working a little more would cause higher interest to be charged, presumably, on the whole of the loan, thus making the graduate worse off. This is what is sometimes called a 'poverty trap' (though the terminology is ill-suited to the case of high earning graduates).

The government is, rightly, trying to simplify the welfare system so that such poverty traps are eradicated. It would be perverse of it to introduce a poverty trap into the student funding system.

The Liberal Democrats are concerned to ensure that student funding is progressive. As I have noted elsewhere on this blog, it is, however, the progressivity of the whole tax system that matters - not the progressivity of the student loans system alone.

There have to be cuts, and, if cuts there have to be, it is as well to introduce reforms alongside them. In my blog post of 23 June this year, I suggested that a quick win would be to limit the availability of child benefit to those parents who most need it. Today's announcement that child benefit will no longer be available to those households where there is a higher rate taxpayer is therefore welcome.

Also welcome are some of the noises about welfare reform. The government's proposals in this area remain thin on detail - and the detail will matter. But one idea that has been mooted is that benefit claimants taking on a job would be allowed to keep claiming their benefit for a fixed period in addition to their earned income. This would mean that no-one could claim to be made worse off by taking on employment. The length of the fixed period matters, of course. But this would appear to be an idea with some merit.

That said, it is not a policy that should be expected to work miracles in reducing unemployment in the short term. The recovery from recession is likely to be slow, unemployment is likely to rise, and the reason for that will be that the economy's demand for labour remains weak. The welfare reform may well improve people's willingness to supply their labour when the economy is approaching capacity constraints. But that time is quite a long way ahead of us.

The International Monetary Fund has published its latest report on the UK economy. It is not clear from the report whether the authors thought that our glass is half full or half empty. The report begins with a statement that 'the UK economy is on the mend', and the view is expressed that 'the government's strong and credible multi-year fiscal deficit reduction plan is essential'. That finding should not be too surprising in light of the way these reports are compiled.

However, the report also makes the points that

'fiscal tightening will dampen short-term growth', that

monetary policy should remain expansionary and will 'need to be nimble if risks materialize', and that

'an adverse scenario where major new shocks—arising from either external forces or domestic ones—trigger another extended contraction in output cannot be ruled out.'

This, then, paints a somewhat unclear picture. The suggestion that a tough and credible deficit reduction plan is needed is not exactly news. The real debate is about how fast this should happen.

For many students of economics, an early encounter with the elegant and sometimes magical nature of the subject comes in the form of the 'multiplier'. The idea of the multiplier is that an autonomous increase in spending in an economy can ultimately bring about a change in national income that is greater than the initial stimulus. The increased spending that kicks off the whole process might come from government - either in the form of increased government expenditure, or as a result of cuts in tax that allow consumers to spend more.

The mechanism that underpins the multiplier is simple. Suppose the government increases spending by engaging in more construction projects. Builders are hired, and they earn incomes. They then spend those incomes - and these expenditures become an increase in someone else's income. And these other people spend their increases in income, thus passing added income on to yet more people. And so on. Ultimately, because we tend not to spend all of any increase in our pay, this process fizzles out, but (at least in the simple cases studied in the textbooks) not before national income has increased by more than the initial increase in spend.

People, understandably, tend to be suspicious when conjurers pull rabbits out of hats. Likewise, many are suspicious about the multiplier. It does, after all, have something of a 'money for nothing' feel about it. In many circumstances, the suspicions are well founded. If the economy is working close to capacity, then the idea of people doing more, generating more income, is misleading. You can't do more if you're already at capacity. In this case, the expansionary effect of the extra spending tends to produce not more output, but simply higher prices. This being so, then beneficial effects of the extra spending get wiped out - or at least reduced. Economists like to talk about increases in government spending being 'crowded out', and this is one form of that.

But there are times when the economy is not working close to capacity. Right now is an example. What about the multiplier at times like now? Two recent papers from the National Bureau of Economic Research - one by Alan Auerbach and Yuriy Gorodnichenko, the other by Robert Gordon and Robert Krenn - tackle this question. And both studies find, convincingly, that the multiplier is much larger during recessions than at other times. Indeed, during recessions, the multiplier may be as high as 2.5. In other words, extra government spending of £100m can generate an increase in the national income of as much as £250m. During recessions, the risk of such fiscal expansion having a detrimental effect on inflation is minimal.

All of this means that fiscal expansion is a sensible policy to follow during recessions. In a dynamic world, we have to keep an eye on the implications of the policy for our ability to pay back government debt - of course. But the evidence we now have suggests that fiscal policy is much more effective (at times like these) than sceptics once suggested.

Vince Cable has, somewhat confusingly, now rejected his own graduate tax proposal as unworkable, but still wants to retain an element of progressivity in graduates' repayment of their student loans. The question is: why?

Progressivity is very laudable (now there's a value judgement for you). But surely it's the progressivity of the tax and benefits system as a whole that matters, not the progressivity of one little bit of it.

In his speech to the TUC today, Mervyn King provided a pretty fair assessment of the state of play. Global imbalances led to cavalier behaviour on the part of the financial institutions, which in turn led to the near collapse of the financial system, needing huge fiscal stimulus to avert a major depression - leaving us with the challenge of a large fiscal deficit.

King states that 'there is a perfectly reasonable debate about the precise speed at which to reduce the deficit. Indeed, I supported the extra fiscal stimulus to the economy provided in the immediate wake of the crisis. And there is a further question about how the deficit should be reduced - the balance between raising taxes and cutting spending. That is not for me to say; that is for you and the politicians to debate.'

It is, as King argues, 'vital for any government to set out and commit to a clear and credible plan for reducing the deficit'. The present government appears to be engaged in an exercise designed to manage people's expectations. While government departments have been asked to prepare for 25% cuts in spending, such drastic cuts far exceed what is needed in order to eliminate the structural deficit. Nevertheless, the cuts will be severe. Their phasing over the next 4 years or so is critical. The Bank of England's own forecasts do not rule out the possibility of a double dip, and the Office for Budget Responsibility forecasts are somewhat less sanguine. Given changes in the state of the US economy since these forecasts were produced, the outlook is, if anything, less favourable. So, while the time to start reducing the deficit is indeed coming up soon, caution will be needed in judging the right speed at which to go.

The plan should not only be 'clear and credible', it should be sensible too - and that means that it should not involve all guns in blazing from the off.

The annual meeting of the Trades Union Congress takes place this week. Delegates will hear calls for an attack on the government's agenda for cuts. This attack includes the possibility of 'joint industrial action'.

The phasing of necessary cutbacks is certainly a matter of debate. I have consistently argued that the cuts should kick in around the early part of next year, conditional on the recovery being sustained, and not before (see, for example, my post on 14 February this year). Interviews with Nick Clegg and George Osborne last week suggest that there is still ongoing debate within the governmnet about this phasing. Until we know the outcome of this debate - when the spending review is announced next month - any threat of militancy looks impetuous.

A lot of media coverage has been given today to an interesting study about the effects of using a lottery in the allocation of pupils to secondary schools in the Brighton area. Lotteries have long been proposed as a means of reducing the social segregation that can result from a system of catchment areas.

Unfortunately, much of the media coverage has oversimplified the results. A curious feature of the Brighton scheme is that catchment areas (which have traditionally served to allocate pupils to schools on the basis of where, in relation to the school, they reside) have continued to exist. Alongside the introduction of the lottery scheme, the catchment areas were however redefined. So a lot of things that might affect the allocation of pupils to schools happened at once.

The evidence provided in the research suggests that the lottery scheme has led to some convergence across schools in the characteristics of pupils that they attract. This is as we would expect. The redrawing of catchment areas has, however, meant that this experience is uneven across the city, with outcomes after the reform being worse (than they would otherwise have been) for some pupils who were previously (but who are no longer) in the catchment area of a good school. None of this is terribly surprising - demonstrating that strange things get into the news during the silly season.

(To reinforce the last point, the front page headline of the Times newspaper on each of the last two days has told us the news that... apparently something didn't happen 14 billion years ago!)

Consumer confidence continues to sink, and house prices are now once more on a falling trend. The latter, at least, is not all bad news. The acceleration in house prices up to July had been something of a puzzle since the earlier fall had not been sufficient to burst the bubble. While I have not been amongst those economists predicting a 30% or more fall in house prices from their peak, I did expect the recovery in prices to be sluggish. Initially it wasn't, raising fears of more boom and bust in that market, and in this context the slowing down that we have seen over the summer is something to be welcomed.

The news on consumer confidence is more disturbing, and I await the August figures with interest.

The rate of growth of GDP accelerated sharply in the second quarter of 2010, with output in that quarter being 1.1% higher than in the first three months of the year. This is clearly very encouraging news. If the strength of the recovery is maintained over the remainder of the year, the economy could be better placed to withstand the government's plans for deficit reduction than appeared to be the case only a short time ago.

The world remains an uncertain place, however. Simultaneous fiscal retrenchment in many countries (including some of our important trading partners), a fragile housing market, the threat of renewed ossification in the banking sector (as evidenced by a rising LIBOR) all point to downside risks that remain significant.

It looks as though Vince Cable's graduate tax proposal, on which I commented in my last blog post, has been mercifully short lived. It is attractive to some because of the property that lifetime repayments rise with lifetime income. But, of course, if you want more progressivity, you can let the income tax system alone take care of that without recourse to graduate taxes.

The downside of the proposal would likely have been a cumbersome bureaucracy making controversial decisions on differential financial allocations to universities. And why, when the market could work out the appropriate resource allocations for free? To thrive, the higher education sector needs more freedom from bureaucracy, not another dose of Stalinism.

University funding is back in the limelight. Vince Cable is to speak in favour of replacing the current system of undergraduate tuition fees with a graduate tax. In many respects, this is not a radical change - students' loan repayments are already proportional to their income. In some ways, a move to a graduate tax might even be welcome - it has the rather nice property of being progressive.

In other ways, though, a shift to a graduate tax might pose problems. Like it or not, it is difficult to see how the UK can, in future, fund world class universities without funding them differentially. It would be reasonably straightforward to achieve this with a system of differential fees - where students who attend the best universities pay a premium (which would have to be covered by a loan). Universities could set their own fees according to their perception of where they stand in the market. This is not so easy to achieve with a graduate tax. For sure, the government could fund the best universities more generously than others - but would those students attending universities that are lower down the food chain be happy to see their graduate tax payments used, in effect, to subsidise students attending universities higher up the rankings? Suddenly the tax no longer seems so progressive. It might, of course, be possible to set differential rates of graduate tax - a lower rate for students attending institutions that offer two year degrees perhaps (such degrees being another proposal doing the rounds) - but that seems dreadfully clunky. And does the government really know better than the market which are the best providers?

As ever with these mechanisms, the devil is in the detail.

It is curious that any government minister should have chosen to preempt the outcome of the Browne review at this stage. That, in itself, suggests that there is a long way still to go on the politics of this issue.

The latest consumer confidence figures from the Nationwide do not make pleasant reading. Consumer confidence has been falling since February, and the worsening state of the index on expectations is particularly striking.

In February, some 39% of respondents expected that, within 6 months, the economic situation in the UK would have improved; only 15% expected the situation to worsen. But the corresponding figures for June are 27% and 24% respectively.

These prospective indicators have a track record of predicting actual fluctuations in the economy rather well. A downturn in confidence and expectations does not necessarily foreshadow a downturn in the real economy. But these figures should give us plenty of reason to be cautious about the sustainability of the present recovery.

Olivier Blanchard and Carlo Cottarelli have published their 'ten commandments for fiscal adjustment'. These are instructive. Commandment 2, which counsels against front-loading the fiscal adjustment, is particularly pertinent to the current debate in Britain.

The G20 summit in Toronto has finished. The limited extent of agreement achieved at the meeting is well encapsulated by the rather novel concept of a 'growth friendly fiscal consolidation plan'. If for nothing else, the authors of the document are to be congratulated on creating the illusion of consensus.

They claim, with some justification that 'efforts to date have borne good results'. The world economy is recovering. But there may be troubles ahead in the form of the dampening impact that is sure to come from simultaneous fiscal consolidation across many countries. Indeed, the International Monetary Fund's report on the summit paints a downside picture that is far from rosy. The markets today reflect some of this gloom. Coordination of policy across countries has never been more important.

Yesterday I wrote about the phasing of the fiscal retrenchment announced in the budget. Today I shall write about the extent of the retrenchment. For sure, a severe correction is needed - nobody questions that. Much of the debate centres around the size of the structural deficit - the bigger that deficit, the greater the consolidation has to be.

The Office for Budgetary Responsibility (OBR) has estimated the size of the structural deficit by, first, estimating the output gap (how far output is from what it would be if the economy were operating at full capacity), and then working out what the balance of government spending would be if the economy were at full capacity. Its estimate of the output gap depends in part on estimates of how much premature scrapping of capital equipment has been going on during the recession. If its estimate of this is too high (and it may well be), its estimate of the structural deficit and of the extent of fiscal consolidation that is needed will also be too high. Until we see how fast the budget deficit shrinks as the economy recovers, we will not know for sure how big is the structural deficit. This provides another reason to think that the phasing of the consolidation needs to be carefully constructed.

Yesterday's budget effectively put off a lot of the real decisions until the autumn statement on spending. But it is clear that the government is looking for 25% cuts over the next 4 years. The public sector pay freeze will go some way towards achieving this, but there will be much ground left to be recovered. There are some quick wins - why, for example, do well-off parents receive child benefit? We shall see in the autumn how economics and politics mix in determining where the cuts fall.

A week ago, the Office for Budgetary Responsibility (OBR) reckoned there was less than a 10% chance of Britain falling back into recession. Today's new estimates suggest that there is about a 20% chance of this happening by 2015. At the same time, the central growth forecast has been downgraded from 2.6% to 2.3%. This is all in the course of a week. The change is, of course, the result of the new measures announced in today's budget.

The deflationary nature of the budget has come as no surprise - expectations were well managed in advance of the event. If the OBR's forecasts are in the right ballpark, then the policies announced in the budget make a great deal of sense. By 2014-15, the government is planning to have phased in a reduction of the deficit amounting to £113 billion per year - half as much again as was planned by the previous government. In itself that may or may not be inappropriate; of course it makes sense to for the government to spend when times are tough, but rein in that spending as the economy improves. Whatever the merits of the extent of retrenchment, the way that it is phased is a matter of great debate.

The plan set by both this government and its predecessor has been to introduce the consolidation gradually, so that about one third of the total deficit reduction (that is, one third of £73 billion in Labour's case, one third of £113 billion in the case of the current government) comes in over the next two years. This means that the cuts announced by the present government over the next couple of years amount to taking £15 billion more out of the economy in 2011-12 (and £8.1 billion - most of which had already been announced) in the current financial year. That is tough medicine for an economy that is still in a fragile state.

To use Donald Rumsfeld's famous terminology, there are 'known unknowns' and 'unknown unknowns'. While one may not wish to argue too much with the central forecast, the risks from the unknowns that do not feature in the OBR model - or in the pretty fan charts - appear to be on the down side. While any budget has to be built on a forecast of how many chickens will hatch, in this particular case the risks of getting it wrong are greater than usual.

An interesting feature of the Office for Budgetary Responsibility's Pre-Budget Forecast concerns the calculation of the 'output gap'. This is the difference between actual output in the economy and the output that would be possible if spare capacity were fully utilised. During a recession, the output gap tends to rise - some firms reduce hours of work so that capital equipment is underutilised, some firms close down leaving premises and other resources unused. At the same time, pulling in the other direction, some capital might be scrapped. It is difficult to get a handle on how much capital scrapping takes place.

In trying to evaluate how the balance of demand and supply factors has affected the output gap over the course of the recent recession, the OBR has had to come to a judgement about (amongst other things) the reduction in capacity. This leads it to estimate that the output gap is currently around 4% of Gross Domestic Product.

This looks like an underestimate. According to the OBR's own figures, that would make the output gap smaller than it was in the 1980s recession.

Does that matter? The smaller the output gap is believed to be, the less potential is there for expansionary monetary and fiscal policies to promote economic growth without resulting in inflation. And the smaller the output gap is believed to be, the higher the proportion of the government budget deficit that is labelled 'structural' rather than 'cyclical'. Both of these are contentious issues.

In general in its report, the OBR has done an admirable job of documenting the uncertainty that attaches to its forecasts. Its estimate of the current output gap is subject to some uncertainty too, is highly policy-relevant, and - as it feeds into next week's budget - carries some danger.

The newly created Office for Budget Responsibility (OBR) has produced its estimates of growth for next year. In the Budget earlier this year, the then Chancellor of the Exchequer predicted that the economy would grow by at least 3% in 2011. The forecasts released today by the OBR suggest that that was too high an estimate. Indeed the OBR expects growth of just 2.6% - well below the previous 3% estimate, albeit higher than some observers had expected.

Whether this correction reflects the fact that the forecasters were subject to political influence before the election or the possibility that they are still (whatever the rhetoric) subject to such influence now is moot. But conjecture on that issue should not hide the fact that, in many respects, the economic picture is not rosy. The austerity measures introduced in other European countries (needed though they are) do little to encourage confidence in growth over the next couple of years.

The good news (inasmuch as there is any) is that the last government did not run up as large a deficit over the last year as had been expected. To some extent this will cancel out the detrimental impact on the public finances of the slower than expected growth over the next 18 months.

A double dip should be avoidable. But the guardians of our public finances are walking a difficult tightrope. They need to be careful not to believe too much of their own political rhetoric.

In a presentation given in London today, John Philpott of the Chartered Institute of Personnel and Development (CIPD) predicts that unemployment will rise close to 3 million by the end of 2012, and that it will stay at roughly that level for a further three years. This represents a marked increase in the CIPD forecast of unemployment, following the announcement of the government's fiscal deficit reduction plans.

An optimistic outlook for the next few years is for slow growth - certainly below the rate required to maintain unemployment at a steady level - so Philpott's forecasts have the ring of truth about them.

If there were to be a double dip, would this be caused by fiscal retrenchment or fiscal profligacy? Curiously, a mix of both. For some countries - Greece has been the most prominent - debt is a serious issue and there have been real concerns about the prospect of those countries honouring that debt. In consequence interest rates on their debt have risen, and there has been nervousness about their ability to raise further borrowing - thereby setting in motion a viscious spiral of concern. If these countries default, their creditors in other countries will lose out. If they do not default, substantial support is nevertheless likely to be needed from other countries. Either way, the sovreign debt problems of certain countries will have an impact on the public finances of other countries, most notably on the engine rooms of the European economy. This will almost inevitably dampen growth in the major European economies over the next couple of years. Those countries that have themselves engaged in significant fiscal retrenchment may find that they are tipped back into recession by the double whammy of tight tax and spend policies alongside the fallout from the sovreign debt problems of other countries.

Where does the UK fit into this? We sit uncomfortably somewhere in the middle. Fiscal retrenchment is needed, but since government borrowing in the UK has been longer term than in some other countries, the need is not quite so immediate, and premature contractionary fiscal policy might still cause a lot of damage. We clearly cannot rely too heavily on growth in Europe helping us out. Yet if a double dip were to happen, we would be hopelessly bereft of policy options - interest rates are virtually zero, quantitative easing would do little but generate inflation, and there would be no further scope for fiscal relaxation. Better to manage a long, slow recovery - but therein lies a real tightrope walk.

Studying time series of a single variable can be a hazardous activity - as indeed can any forecasting exercise. But a reasonable forecast of the 2008 recession could have been made using a neural network analysis of the index of industrial production. (I tried with 24 lags of the dependent variable, 2 neurodes in the hidden layer, and a hyperbolic tangent squasher, using monthly data that go back to 1968 - just in case you wanted to know.) This same model predicted the recovery quite well too. The same model shows the recovery in industrial output stalling somewhat from now onwards, staying at just above zero growth over the next 15 months. But then the forecast indicates a nasty dive in the last quarter of 2011.

One should not place too much confidence in long range forecasts that come out of such a simple model. But we know enough about the general macroeconomic environment to know that we are far from being out of the woods just yet. The growth rate of the Eurozone economies is likely to be severely dampened by the need to address fiscal deficits of the southern states - and the UK trades a lot with (and so its fortunes depend a lot on) the Eurozone. At the same time, the deficit reduction policies being implemented at home will themselves have a deleterious impact on growth. On balance, I would still expect the next few years to be characterised by a long, slow recovery. But a double dip cannot be ruled out, and is, if anything, getting to look more rather than less likely.

In this month's Inflation Report, the Bank of England argues 'that the
recovery in economic activity is likely to gather strength over the
next year or so. But the downside risks to growth in the near
term have increased somewhat, reflecting in particular
heightened market concerns about the prospects for fiscal
consolidation' - here and around the world. Specifically in the UK context, the Bank notes that the pace of the
'recovery will be dampened by several factors: the need for a
substantial fiscal tightening; further strengthening in the
balance sheet of the UK banking sector; and the private sector’s
desire for higher savings in an environment of increased
uncertainty'. Put simply: proceed with care.

There are now reports that the Liberal Democrats have won from the Conservatives a concession that the £6b spending cut will not go ahead in full this year if signs develop that the economy is weakening. If the reports are correct, then we have some unambiguously good news.

It has taken some time for the various negotiations to come to a conclusion, but we now have a new government in the UK. The Liberal Democrats succeeded in gaining some concessions from the Conservatives, but these have overwhelmingly been in the area of political reform. On economic policy, there will now be an accelerated fiscal retrenchment, with £6bill spending reductions this year. This risks tipping the economy back into recession before the recovery gets fully under way.

For sure, the budget deficit needs to be addressed - and over the course of a parliament more needed to be done than Labour were offering. But the timing of this is potentially critical. Accelerating retrenchment by only a few months could have a major detrimental impact.

The markets appear to like the deal that the EU and IMF have reached to prevent the debt crisis in Greece from spreading to other southern European states. The deal involves the Eurozone countries in guaranteeing 440b in loans, with a further 250b coming from the IMF. In addition, the European Commission is injecting 60b of emergency funding (some of which will, of course, come from non-Eurozone EU members such as the UK). The scale of this deal is impressive, and is a measure of the political ambition that underpins the Euro. It will involve a not insubstantial shift of political power from the weaker economies to the centre of Europe.

The numbers are big. They need to be in order to build a sufficiently secure tidal wall; this needs to resist the pressure of market forces that are speculating against the weaker economies by failing to buy their debt. The question remains: tidal wall or Cnut?

The economic scenario facing Greece is difficult. The country has accessed international support and its parliament has approved a tough set of austerity measures. These measures will not be easy to implement. The current government, or a different government, may be left with little option other than to withdraw from the euro. This would allow the new Greek currency to depreciate, improving competitiveness and disguising (through inflation due to higher import prices) the real impact of the austerity measures on the Greek population.

Portugal and Spain, and to a lesser extent Italy, have been identified as other Eurozone countries facing difficulties. It looks increasingly as though the Eurozone was never an optimal currency area. The northern countries might more reasonably have formed one such area while the southern countries formed another. Political aspiration ran ahead of economic reality.

In the UK, the decision to stay out of the euro was motivated by political considerations rather than economic analysis - a proper cost-benefit study was never conducted. That being so, the fact that we, unlike Greece, are not straitjacketed by the euro appears to be more a matter of good luck than good judgement.

An interesting contribution to the election debate has been published by Tullett Prebon. It argues for substantial cuts in public expenditure, making the following claim:

'When anyone calls for cuts in public spending, there are howls of protest, and grim warnings that slashing spending would inflict unacceptable damage on the public services that are required by a civilised society. This is bunkum. In 2009-10, the government spent £674bn. If this were reduced by £50bn, it would remain higher than the inflation-adjusted total for 2007-08, when the public services were hardly under-funded. Even a £100bn reduction would only take real spending back to the 2004-05 level.'

This is a pretty dramatic claim. But it is spurious. To make a sensible comparison, it is necessary to adjust the figures to allow for the fact that the three years were at different points in the business cycle. Spending was high in 2009-10 precisely because the economy was in deep recession. This meant that spending on things like benefits (unemployment benefit, income support etc.) was high. And spending on projects was brought forward in order to mitigate the worst effects of the recession. Comparing this spending with that which obtained in 2004-05 is frankly ridiculous.

This does not mean that there is no scope for efficiency savings - there always is. But the Tullett Prebon report does show just how careful one has to be in reading claims made during an election period. In some measure, recovery will automatically bring about a cut in public expenditures. And in some measure a reduction of the UK's structural budget deficit is necessary. But without waiting for the recovery to take place, a £50b or £100b cut in public expenditure would cause untold damage.

The telecommunications regulator, Ofcom, has ruled that BSkyB must make two of its premier sports channels (Sky Sports 1 and Sky Sports 2) available to other distributors of television services at a reduced price. The regulator's concern is that BSkyB is abusing its monopoly position as a broadcaster of premier sports events.

In fact there is some competition. ESPN (another pay-TV operator) has the rights to certain premiership football matches, while other football competitions are broadcast by BBC, ITV and Channel 5. A reasonable amount of rugby is broadcast by BBC. Cricket's superb IPL competition is broadcast by ITV. The Hotbird satellite carries a huge amount of European sport free to air. But there is nonetheless widespread feeling that Sky does some cherry-picking. In this, Sky are supported by the sports bodies that themselves benefit from the broadcaster's financial clout.

Pricing in broadcasting is tricky. The general principle that welfare is maximised when price is set at marginal cost cannot be applied here - at least not without some modification. The marginal cost associated with a new subscriber is (virtually) nothing. If the subscription price were set at nothing, the broadcaster would receive no revenues and would not produce anything - unless, along the lines of a public service broadcaster, it were subsidised. So rules that are inevitably somewhat ad hoc have to take the place of general economic principles.

What, then, are the issues that need to be considered? The sports bodies gain from higher prices - up to a point. Much of the resultant surplus, ultimately, goes into athletes' pay. Likewise BSkyB benefits in terms of higher profits from the higher prices which, after all, it chooses to charge. Telecommunications firms that buy access to the premium sports channel in order to sell on to consumers would, however, benefit from lower charges, since this makes their package more attractive. Likewise, consumers would benefit from lower charges. Any consideration of the price that is best for society as a whole involves balancing these competing interests.

But the key is this: there are doubtless many consumers who would be willing to pay something for premium sport but who are not willing to pay current prices. If BSkyB could offer them discounted prices without alienating its current customer base, it would do so. The status quo is therefore inefficient because trades that ought to be made are not being made. This is what we call market failure, and such a situation is precisely what regulation is there to sort out.

An interesting article by Joseph Stiglitz argues against premature cutting of the budget deficit. Stiglitz suggests that 'prospects of a robust recovery are, at best, year or two away' and that at this stage 'reducing governemnt spending is a risk not worth taking'.

He notes that there is a difference between different types of expenditure, and that investment spending (on education, for instance) can lead to reductions in the budget deficit in future years. He also notes - and here is a crucial point - that the 'risks (associated with different policies on the budget deficit) are asymmetric: if these forecasts are wrong, and there is a more robust recovery, then, of course, expenditures can be cut back and/or taxes increased'.

Interestingly, Stiglitz makes specific comment on the UK: 'The UK's weaker performance is not the result of worse policies; indeed, compared to the US, its bank bailouts and labor market policies were, in many ways, far better.'

Barry Eichengreen and Kevin O'Rourke have been keeping tabs on the recession that started in 2008, comparing it with the Great Depression. Their early analyses suggested that the paths of the two events looked alarmingly similar. Their most recent update, available here, suggests that the global economy has pulled out of recession and that the pattern of economic activity now looks very different from that observed in the late 1920s and early 1930s.

Eichengreen and O'Rourke argue that 'policy deserves considerable credit' for the recovery. Moreover, they note that 'considerable excess capacity remains in a number of important economies. Exiting now from policies of stimulus in those countries would therefore be premature.'

The Association of Graduate Recruiters has published a new 'manifesto' for graduate recruitment. Its calls to action include the abolishment of the 50% target age participation rate for higher education, and a lifting of the cap on undergraduate tuition fees.

The manifesto has met with a mixed response, and has been criticised by both unions and government - not least because these groups see the economy as dependent on high skills, and so they support the 50% target.

A further recommendation in the manifesto is that tax breaks should be introduced for the employers of new graduates. The case is not well argued. Breaks given to employers conditional on the adoption of certain recruitment practices have often backfired, with employers shedding labour of other kinds in order to increase their hiring of the subsidised type of labour.

The headline in today's Times states that the 'shock deficit threatens UK recovery'.

On the same day, more than 60 economists have signed letters published in the Financial Times, arguing that moves to reduce the deficit should not be rushed since this would risk a return to recession.

The deficit (that is, borrowing over the year) is large, but the debt (the sum of deficits accumulated over the years) is not. For sure the deficit needs to be tackled sometime soon, otherwise the debt will grow, and ultimately servicing that debt would become a problem. But, in comparison with many other countries, the UK has started out from a good place.

Ponder for a moment why the deficit has grown. National income has declined by over 6% during this recession. During normal times, it grows by an average of about 2.5% per year, so national income is now around 10% lower than it would be had we experienced trend rates of growth over the last couple of years. As national income falls, tax revenues to government automatically fall. This fall has been of the order of £45-50 billion. At the same time, government spending on benefits automatically rise as the recession takes hold. Add to this a variety of special measures that have been taken, and which are time limited - the cut in VAT, the preponing of major construction projects and so on. This all suggests that a substantial proportion of the budget deficit is due to the recession (automatic stabilisation policy) and to deliberate attempts to minimise the impact of that recession (discretionary stabilisation policy). The deficit is there, in large measure, precisely to bring about UK recovery - not to threaten it.

This means that the Times headline is 'through the looking glass' economics.

For sure, books need to balance over the long term. The best thing to do to bring that balance about is to support the recovery. Once the recovery is properly under way, public sector cuts will be needed, and those cuts will hurt. The patient needs to be strong enough to take the medicine. Supporting the recovery calls for careful treatment, not knee-jerk reaction.

The CPI inflation rate rose to 3.5% in January. Since this is above the 3% threshold, the Governor of the Bank of England must write a letter of explanation to the Chancellor of the Exchequer. He should not find this task too daunting. The rate of VAT rose back to 17.5% in January following its temporary reduction to 15%. As a result, for the next 12 months, the headline inflation figure will be artificially high.

Far from inflation and overheating, the threat that the UK economy continues to face comes from a recovery that is, as yet, still very weak. The danger of a return to recession is a real threat, and the temporary blip in inflation should not serve to disguise that fact.

A letter in today's Sunday Times, written by a group of eminent economists, argues for early implementation of government spending cuts. I was a signatory to an earlier letter in the Financial Times that argued the opposite. What should we believe?

There is, for sure, a substantial government budget deficit - currently around £140 billion over a year. A significant part, somewhat more than a half, of this is due to the operation of so-called automatic stabilisers - the tendency for tax revenues to fall, and government spending to rise, during a recession. More is due to the deliberate rescheduling of government spending on projects - bringing them forward so that the economy can benefit from an early injection of spending. This being so, the public finances can be expected, in some measure, to 'rise with the tide' as the economy recovers.

Nonetheless, there will be a need for substantial cuts - nobody disputes that the structural budget deficit is indeed large. Timing is of the essence. While the economy remains fragile, cuts will be premature. Yet confidence in the public sector's ability to manage its debt depends critically on a credible plan being put in place. What is needed quickly is the promise of such a plan; the cuts themselves should wait a while until the recovery is more secure. If we can achieve growth of 1.5% this year, then there will be scope.

Sir Michael Marmot's review on health inequalities in the UK has just been published. The inequalities that are highlighted are startling, and in themselves call for action.

One of the review's proposals refers to the minimum wage. The review cites work by which argues that a full-time worker on the minimum wage enjoys earnings that are insufficient to meet public expectations of an 'acceptable minimum standard of living'. It then argues for 'the coordination of social support, tax systems and minimum wage levels necessary to enable full implementation of minimum income for healthy living standards'.

This raises several issues. First, the link between the minimum wage and household incomes is tenuous. Workers who receive the minimum wage are not necessarily the chief income earners of a household. Even if they are, they may be in minimum wage employment for short spells in between longer spells of more remunerative work. Many workers who receive minimum wages work part-time. In many cases, young people work in jobs paying the minimum wage, either on a part-time basis or while they are searching for better jobs elsewhere. Put simply, the minimum wage is a blunt instrument in targeting poverty.

Where the chief income earner in a household is being paid minimum wages, for sure the income of the household is low. But the support of households in this position is not limited to the minimum wage - benefits, based on household income, kick in. These benefits are far better at targeting poverty.

Raising the minimum wage can of course help some people in poorly remunerated jobs; that's what they're there for. But it also raises the price of labour for employers. Under some circumstances this is no bad thing - it can prevent exploitation of workers in a situation where the employer has a lot of market power. But substantially to raise the minimum wage during tough economic times would most likely have deleterious effects on employment. It is a policy that would hurt the very people that Marmot is seeking to protect.

So that's that then. The UK has emerged out of recession, with growth of 0.1% in the last quarter of last year. This is not a spectacular bounce back, and the receovery is set to be fragile for some time to come. The restoration of VAT to 17.5% at the start of this year may have led some people to prepone major purchases, so there could be a downward blip in demand during the current quarter. And while political considerations have delayed the announcement of savage public expenditure cuts (and - given that the patient is still in intensive care - that is probably just as well), such cuts will surely come.

While the unemployment rate fell last month, this was surprising. Over the longer term, expect the economy to have to grow by 2-2.5% per year before seeing a sustained decline in unemployment. In light of the pressure on public finances, it could well be another two years, at least, before this is achieved.

We're out of recession, but not out of the woods.

A letter appears in today's Financial Times from 12 economists, urging the Chancellor of the Exchequer not to rush to cut government spending. I am one of the signatories.

To be sure, the government's budget deficit has risen alarmingly over the last couple of years. It has needed to do so in order to mitigate the effects of recession. And it has, beyond doubt, reached levels that, at around 15% of Gross Domestic Product, are not sustainable in the long term. But we should not forget that the deficit is a flow measure - it represents the gap between government spending and tax revenues in just one year. If we live beyond our means year after year, then that is not good; but if we save in some years in order to spend in difficult times, then that is not bad. At the moment, things are difficult, and thanks to some fairly prudent housekeeping in years gone by (not as prudent as it might have been perhaps - but still prudent enough) the national debt - the relevant stock measure - remains fairly modest. To be precise, the national debt in the UK (according to the latest OECD estimates) amounts to around 75% of Gross Domestic Product - less than that in the Euro area, less than that in the United States, and considerably less than that in Japan.

The government will need to tackle the budget deficit at some stage, and it should not wait too long before doing so. But to be aggressive in doing so now would be premature. The data for the last quarter showed the UK still in recession. Other countries will be tightening their budgets and this will likely result in, at best, slow recovery of global demand. So any recovery in the UK will be fragile over the coming year. If spending cuts were to throw the economy back into reverse, tax revenues would fall further, thus exacerbating - not curing - the problem of a high budget deficit.

Perhaps the foot should come off the accelerator a little. But it's too early to slam it on the brake. Like good comedy, it's just a matter of... timing.

A couple of news snippets from America have thrown the markets into reverse. House sales slowed by 3.6% over the year to September, and a measure of consumer confidence has also slipped. This news closely follows other disappointing news about US retail sales - though the latter figures are distorted somewhat by the ending of the car scrappage scheme in September.

The news from across the pond serves as a warning that - while the worst of the recession may be over - the route back to sustained growth is likely to be long and difficult. We knew that already. A look at the long term trend suggests that the markets are not currently overvalued, and that the current blip should not represent the start of a more prolonged decline.

In a Guardian article over the weekend, David Blanchflower has argued that 'a few years of inflation, around 5% or so, would be a really good idea'. It is certainly the case that inflation could help reduce the national debt and so improve the public finances - simply because it would reduce the real value of that debt. That being the case, it is almost certainly part of the hidden agenda for all political parties as we run up to the next election.

However, inflation hits some people harder than others. In particular it hits those on fixed incomes (which are often low incomes) - people like pensioners. To advocate a deliberate stimulus of inflation will be regarded by many observers as bizzare, at least without introducing special protection for disadvantaged groups. This means indexation of pensions. How effective a policy of inflation would then be is uncertain. The long and short of it is that the current situation demands that people feel pain in the adjustment.

Prof Blanchflower has done us all a service in bringing what are surely hidden agendas out into the open. Whether he is right in judging inflation to be a 'really good idea' is moot. But it is certainly right that we should have the opportunity to discuss these things in the open.

The Confederation of British Industry has generated some controversy with its report higher education. It advocates increased tuition fees, temporary abandonment of the target that 50% of the cohort should benefit from higher education, more financial support from business, and increased support for the STEM (schience, technology, engineering and mathematics) subject areas. These are not straightforward proposals.

Increasing tuition fees certainly sounds like an appealing way of maintaining funding for the universities at a time when the public finances are going to be squeezed. But the way in which students are funded in the UK make this option less simple to implement than might appear at first glance. Students receive a loan from the Student Loans Company, out of which they pay their tuition fees. These loans are funded by government. To be sure, the government can package these loans up and sell them to the private sector as parcels of debt - financial institutions are happy to pay upfront for an asset that will yield them returns in the future. But these parcels have to be sold at a discount. This discount reflects the fact that not all of what is loaned to students ends up being repaid - students on low incomes do not make repayments, and there is a write-off of the debt after 25 years. So, even though an increase in tuition fees might lead to a reduction in the amount of money that government needs to give directly to the universities, it would also lead to an increase in the amount of government expenditure needed to fund the student loan system. The extent to which tuition fees could be raised therefore entails a rather delicate balancing act. The Institute for Fiscal Studies has done interesting work on this. Some increase in tuition fees would certainly be possible. But the extent to which this could be done without entailing additional government expenditure is more limited than some commentators would appear to think.

The 50% target has always been contentious - not least because the figure itself appears to have been plucked out of thin air. It might reasonably be argued that, rather than have a target, young people should be allowed to make their own decisions about whether or not higher education represents, for them, a good investment. This year, many thousands of qualified school leavers have not succeeded in finding places in higher education. Abandonment of the target now would appear to be perverse.

It is not new for there to be calls for businesses to provide financial support to higher education. Many people agree that they should, but this does not, of course, mean that they will. Workers are not, in general, bound to their employers - we do not live in a slavery society. This means that workers are mobile across firms, which in turn means that firms are reluctant to pay for workers’ general education – they have no guarantee that the worker will stay with the firm long enough to give the company a return on its investment in that education.

The STEM subjects have been prioritised by government in recent years. There are, however, other subjects – notably business and law - that equally offer students a high rate of return.

While the CBI proposals are to be welcomed in that they will encourage debate, one would hope that the debate that is to follow will recognise some of the nuances that the proposals themselves fail to appreciate.

The National Institute for Economic Research estimates that the UK economy grew in the three months to the end of August this year. Official data will not be released until later in the year, and will cover the three months to September.

Meanwhile the FTSE index has risen above 5000 and appears - for now at least - to be staying there, giving further cause for optimism.

If these indicators are to be trusted, it would suggest that the recession has been quite short - five quarters - but also quite sharp. The rapid return to growth has surely been helped by the aggressive policy response of governments around the world. But that response in itself - desirable though it has been - has compromised the ability of economies to recover rapidly. The gulf that has emerged between public spending and tax revenues in this recession means that fiscal tightening over the next few years is inevitable. That tightening will constrain the growth of the economy in exactly the same way as the recent expansion of the budget deficit has stimulated it. The recession may be over, but the aftermath will be with us for several years to come.

The OECD has published the latest in its series of reports, Education at a Glance. This highlights the substantial rate of return to higher education in all OECD countries, and strongly argues the case for further investment in students' education, particularly as a means of ensuring that countries emerge out of recession with a labour force that is as strongly equipped as possible. This echoes the case made several months ago by David Bell and David Blanchflower.

Governments have been aggressive in their policy response to the current recession, and the impact of this will be felt for years to come in the form of a squeeze on public finances. But education has considerable appeal at times like these: we invest in young people's skills rather than let them depreciate through lack of use; we avoid the scarring effects of unemployment which can blight whole careers; we ensure that aggregate demand is stimulated, but also - crucial in the long run - aggregate supply is boosted, as the productive capacity of the economy is enhanced through education.

Shaping a Fairer Future is an update from the Women and Work Commission about progress in securing gender equality in the UK. The crude gender pay gap has risen slightly since 2007, to 23 per cent - while this is an unsatisfactory measure in that it makes no allowance for differences in experience or other characteristics, the direction of change remains a source of concern.

The report points to gender stereotyping at early ages and failures to secure a satisfactory work-life balance as two major areas where change is needed. It notes some areas of progress since the Commission's earlier report three years ago, but at the same time laments the fact that recommendations made at that time have not been followed up.

While much of the new report is to be commended, some of its recommendations appear underdeveloped. For example, recommendation 34 urges the Department for Children Schools and Families to consider 'what more can be done to increase the wages of childcare workers, many of whom receive low/minimum wage, while ensuring that childcare costs remain affordable'. This is very worthy, but wages are of course determined primarily by the forces of demand and supply - as indeed are childcare costs. If this recommendation is a veiled call for subsidies, perhaps, in the current economic climate, the Commission should apply a rather brutal reality check.

Gross Domestic Product (GDP) continues to fall keeping the economy in recession. The latest figures show that GDP fell by 0.8% in the second quarter of 2009 - suggesting that the optimistic monthly estimates for April and May that had been produced by NIESR (and discussed earlier on this blog) were biased up. This is the fifth quarter of the recession. While the decline in output in the second quarter is certainly more modest than in the first quarter of this year, it still looks as though it will be the end of this year before the recession ends. And it will be many (18-24, possibly more) months later before unemployment starts to ease.

On the not-so-dismal side, retail sales have bounced back over the last month or so, and the housing market continues to show some signs of recovery with increased sales (albeit at depressed prices).

We may be past the trough, but there is still some way to go before we can say that output is rising and the recovery is properly under way.

The Chancellor of the Exchequer has announced plans to reform the regulation of the banking system in the wake of the financial crisis. The plans involve:

(i) capital asset requirements for banks, in the form of minimum required ratios that will vary according to the riskiness of activity
(ii) an enhanced regulatory role for the Financial Services Authority (FSA), and special focus on the activities of key banks
(iii) curbing the tendency for banks to take excessive risks, by devising a code that will regulate banks' remuneration practices
(iv) improved systems of corporate governance

As far as they go, the plans are good. One might quibble about whether certain functions are better carried out by the FSA or the Bank of England - but that is a secondary quibble. A more major concern, however, is that these reforms fail to tackle the problem that was at the very heart of the crisis - that of hidden information. Capital assets ratios can be enforced if the regulator knows all about a bank's transactions; risk-taking can be curbed if the regulator knows all about the risks that are being taken. But if there is latent information, the fundamental problems remain.

The economic theory of principal and agent shows that it is possible to design incentive schemes that ensure that agents (in this case, banks) behave in a way that is compatible with the interests of the principal (in this case, the regulator) even when the agents have information that is not revealed to the principal. Smart reform of the banking system should focus more on the design of such incentives, and be less trusting about the extent to which banks will be prepared to reveal all.

In a nutshell, the proposals are a good start, but they betray a naivete that, in the wake of the events of the last two years, is a little surprising. The plans should go further.

The National Institute for Economic and Social Research (NIESR) has released its latest estimates of monthly GDP for the UK. These suggest that GDP has grown in each of the last two months, and that the trough of the recession was in March of this year.

NIESR has a good track record, and its estimates deserve to be taken seriously. This being the case, the news is very encouraging. Indeed, it would mean that the recession has been unusually short, in spite of the severity of the downturn in the last quarter of 2008 and first quarter of 2009.

My expectation has been that we would start to see a recovery in the last quarter of this year or the first quarter of next. It would be nice to be proved wrong if it were to mean that recovery comes sooner than I expected. But there is still room for caution. Recessions do usually last longer than three or four quarters. And in any event, the recovery in output growth typically leads recovery in the labour market by up to two years. So, unfortunately, unemployment is still set to rise for a while to come.

Barry Eichengreen and Kevin O'Rourke have recently provided comparisons of the current state of the global economy and that which prevailed in 1929. Their early comparisons generated some alarm in that the pattern of the Great Depression seemed to be replicated in the current data. The most recent update suggests that there is now room for cautious optimism. Over the last couple of months, the decline in world economic output has slowed, suggesting the possibility that we may be near a turning point. Stock markets have also recovered somewhat over that period.

There is further reason for this optimism. The policy response has been much more aggressive this time around. Using a 7 country average, Eichengreen and O'Rourke show that interest rates are now close to zero, while in the 1929 crisis they remained at around 4 per cent.

While the overall outlook is starting to improve, there are some countries where the immediate prospects still look very bleak. Output is still falling rapidly in Italy and France, for example. It is still some weeks before we shall see the official UK data for the second quarter of 2009 - we shall all await those with interest.

The OECD's leading indicators have been published this week, and show a little bit of encouraging news. The series, which were plummeting downwards after falling off a cliff in the early part of last year, have shown some signs of recovery in several countries. In the UK, there is indication that the bottom of the trough in the series may have been passed. It is still early days.

Today's budget presents the Chancellor, Alistair Darling, with a tough challenge. The immediate prospects for the economy remain poor, and further stimulus would be welcome - so long as it can be concentrated in areas where the impact will be instantaneous. The recession, alongside the bailouts of the banks, is taking a toll on the public finances, though - tax revenues fall as the national income is reduced, while at the same time government spending on benefits increases. The scale of the hit on the public purse is such that the markets need reassurance that plans are in place for the government to repay what it is borrowing. The problem for the Chancellor is that the more reassurance he gives, the more likely people are to curtail their current spending in anticipation of future tax rises and spending cuts, and so the harder it will be to ensure a healthy recovery. That's a difficult tightrope to walk.

Things have been made easier for the Chancellor - but not necessarily for the country as a whole - by the failure of the G20 to agree a coordinated fiscal stimulus. It makes little sense for the UK to go it alone on this (any more than it has done so already). Much of any extra spending would likely spill out of the domestic economy. Hence, for example, the much mooted deal for the car industry - giving discounts on new cars to people who scrap old ones - would involve the British taxpayer in subsidising foreign car manufacturers; while the policy would no doubt help car dealers, parts manufacturers, and other firms in this country, it still does not look like smart policy. Proposals to stimulate construction (which does not involve such leakages out of the domestic economy) look like a better bet. But they need to be implemented quickly.

There are mixed signals about the state of the housing market this week, in reports from the Nationwide and Halifax. Nationwide shows a slight increase in house prices during March, while Halifax indicates that prices continued to fall.

A graph of the two series of statistics together appears to show that the downturn in house price inflation - as measured year on year - is bottoming out. But while the curve lies below zero, prices remain lower than at the same time last year.

Other recent statistics, released by the Bank of England, show that the number of mortgage approvals for house purchases increased quite sharply in February, albeit from horribly low levels. It is probably too early to talk of green shoots, but in the housing market the dead leaves are now falling less thickly.

The G20 London summit has closed. The world leaders have achieved agreement on some, but not all, of the issues on the agenda.

The summit subscribed to sound principles for the reform of the banking system, broadening the scope of regulation to include the credit rating agencies and hedge funds, removing conflicts of interest, adopting international standards, and regulating bonuses. The leaders also committed to a common global approach to tackling the problem of toxic assets.

Over $1000 billion will be committed by the G20 to support international agencies such as the International Monetary Fund (IMF) and World Bank. In turn, the IMF will increase its allocation of Special Drawing Rights (SDRs) to its members by up to $250 billion. SDRs were created in the late 1960s as an alternative asset to gold and the US dollar. This is the first time an increased allocation of SDRs has been made since 1981, and it represents a means of increasing liquidity at an international level in much the same way as quantitative easing increases liquidity in a domestic economy. This relaxation by the IMF is likely to be particularly helpful to middle income countries that are big enough to have reserves at the IMF yet not so big that they have been able to put major quantitative easing programmes of their own in place.

The rhetoric is anti-protectionist. Good - protectionism would be hugely damaging to the efficiency of the global economy, and would throw into reverse the fantastic gains that have been made in alleviating poverty, particularly in the developing world, over the last 20 years. But, here at least, we know that the reality is diverging from the rhetoric - a recent VOX publication demonstrates that trade has collapsed dramatically in the wake of increased insidious protectionism. The rhetoric needs to win out, and the moves toward back-door protectionism strongly resisted. The summit resolved to support trade by injecting $250 billion of trade finance to be made available through the development banks, the World Bank, and other international agencies. It also resolved to ask the IMF to use the proceeds of gold sales to help the poorest countries.

There has been no agreement to co-ordinate a further fiscal stimulus, though there was an anodyne statement that the governments would 'do what it takes to restore global growth' and that a global stimulus of $5000 billion has already taken place. In the absence of this, any major further unilateral stimulus from the UK government is now unlikely, especially in the form of further tax cuts - the benefits of these would too readily leak out of the domestic economy. This news is a mixed blessing - the public finances are weak, but a coordinated stimulus would have been very welcome. There has been mention of investment in green projects, and this seems to be an area where countries will each work things out their own way. Let's wait and see what happens in the budget later this month.

The summit represents a political as well as an economic watershed in that some rapidly developing countries - notably China - will contribute more to international agencies, and so will gain considerably more voice. At the same time, the international agencies will increase their surveillance of the world economy.

Overall this represents a mixed outcome. The G20 will meet again later this year. By then it may be clearer where the world economy is headed, and we will know more about how desirable an extra fiscal stimulus might have been. The extent to which, amongst the countries that make up the G20, the response is as coordinated as the rhetoric will also, by then, be clearer.

The plot is straightforward. Britain and the US want a coordinated fiscal stimulus package. Meanwhile France and Germany want reform of the regulatory system for the financial sector. In truth no-one would disagree with them, but they are promoting the idea of regulation as a smokescreen that can hide their opposition to what they brand as the 'Anglo-Saxon' calls for further fiscal expansion.

The reality is that the world needs both regulatory reform and fiscal stimulus. The G20 summit in London is likely to provide the first, and we need to wait and see whether it will deliver on the second. Sarkozy and Merkel need to act tough to impress their domestic audiences, and it is not clear how closely matched their rhetoric will be to their actions. The hype is that the crisis started, and so needs to be solved, in countries other than their own. But they must surely know that, in an integrated world, blame is really irrelevant to the solution. And solution, now more than ever, requires co-ordinated response.

Lord Turner, chair of the Financial Services Authority (FSA), has today published his review of bank regulation. He was asked to produce this review by the Chancellor of the Exchequer in the wake of the banking crisis.

He recommends that banks should be required to hold more of their assets in the form of reserves, building up these reserves during prosperous times, so that they are not engaging in excessive lending that can result in cash flow problems. The recent policy has been to allow banks to make their own judgements about their levels of reserves - and many, seduced by the returns that are available from more profitable investments, have been caught out by allowing their reserves to fall too low. So this proposal is really about protecting banks from themselves. The proposal goes much further than stipulating a reserve assets ratio, as it drills down into the detail of banks' balance sheets.

Lord Turner raises the possibility that, to promote cautious lending, limits (dependent on the borrower's income) should be placed on the amounts that can be offered as mortgage loans. He also recommends that banks should be required to publish data on the risks that they are undertaking when making investments. It is difficult to see how this can be operationalised other than through a reliance on credit ratings - which are themselves now largely discredited and in need of reform. The Turner report proposes such reforms.

The report also states that, while the FSA has, in the past, taken the view that the market is right and that decisions made by banks in response to market forces are good decisions, it will in future question that view; in so doing it will become a more challenging regulator for the banks to work with. This has to be a good thing.

The report addresses also the bonus culture that has existed in financial institutions, and makes a sound recommendation that payment of bonuses should be deferred in order to ensure that workers' behaviour serves the long term interests of the bank.

Throughout the report, the emphasis is on securing international agreement and adherence to the reforms wherever possible.

But the key to the success of all of the above proposals is the quality of information that banks are required to provide. Auditing of this information will need to be robust, with severe penalties for misrepresentation. We have learned a lot about the power of hidden information over the last couple of years, and we have learned about how easily information can be concealed from view. Now we need to learn about how to flush it out. Lord Turner's report is a very welcome step in the right direction.

The International Monetary Fund (IMF) has revised downwards its growth forecasts for the UK economy over the next couple of years, and now expects overall negative growth in 2010 as well as 2009. While there is certainly a possibility of deflation and prolonged recession, my judgement would be that this remains a possibility rather than a likelihood. In particular, the introduction of quantitative easing should make falling prices less likely. The IMF forecasts therefore look pessimistic. It is perhaps worth noting that the IMF will not publish these forecasts until the end of April, as part of their World Economic Outlook series. Much can change between now and then.

Unemployment in the UK has risen above 2 million as the recession continues to bite. News on this front will get worse, probably much worse, before it starts to get better. Recessions tend to be fairly short lived affairs, and so growth should resume within the next year or so. But it takes more than a little growth to stem the rise in unemployment. Owing to the impact of technological change on productivity, the growth rate of real output in the UK needs to be about 2.5% per year in order to keep unemployment from rising. So we can expect the unemployment rate to rise for quite a while yet. Indeed, while the typical duration of a recession as measured by the period over which GDP growth is negative is about 18 months, it is typically the case that the unemployment rate rises for a further 2 or 3 years after the recession ends.

A new debate has opened about university tuition fees in the UK. A survey of vice chancellors indicates that most are in favour of a substantial rise in the upper limit on tuition fees, currently set at £3145 per year for UK domiciled undergraduates.

This might appear to be quite a simple question of striking a balance between public and private contributions to the cost of higher education. The reality is somewhat more subtle. Current practice is for the government to bundle student loans together and sells the debt to private sector investors - this debt is sold at a discount in order to reflect the fact that not all of the amount owed by students will be repaid. For example, if a graduate has any debt outstanding 25 years after graduating, then that debt is written off. As things stand, the discount is not huge, but raising tuition fees would inevitably lead to an increase in the debt that is not repaid - and hence would require the government to sell this debt off at a more substantial discount.

Put simply, raising tuition fees would raise the government's own commitment to spend on higher education. Removing the cap on tuition fees altogether would require the government to sign a blank cheque.

There are several potential fixes to this dilemma, none of them very pleasant. The rate of repayment of the loan could be raised above the current level (which is 9% of all income above a disregard). The interest rate subsidy on loans could be reduced or scrapped altogether. Loans to cover tuition fees could be limited to (say) £3145, and students would have to fund the gap between this and actual tuition fees - perhaps by taking out commercial bank loans or by way of parental donations. Another alternative would be to convert the current system into a fully fledged graduate tax, whereby graduates pay a higher rate of income tax than other workers, with no upper limit on the amount of repayment of the cost of higher education.

It is inevitable that universities, nervous about their prospects for continued government funding once the economic crisis is over, should wish to explore other avenues. The problem is that any attempt to shift more of the costs onto graduates would have to be very cleverly engineered in order to avoid imposing substantially greater costs also on the taxpayer.

The Bank of England has once again cut its interest rate, this time to 0.5%. Significantly, the cut has been accompanied by an announcement that the Bank will engage in quantitative easing (QE) in order to render less likely the chances of inflation turning negative later this year. Such deflation would be extremely harmful to the prospects of economic recovery, since demand would collapse as people postpone nonessential purchases in order to take advantage of falling prices.

QE is likely, initially at least, to operate via the Bank's usual mechanisms - the new money will be released into the economy as the Bank purchases bonds and other securities from the commercial banks. The commercial banks would then hold more of their assets in the form of money, which they would then be able to lend to businesses or prospective house purchasers and consumers.

On 22 April, the budget will be announced. By then, it may become clear that QE could be used in order to finance a fiscal expansion. This, so long as it is concentrated on 'shovel-ready', quick win projects is also desirable under the present circumstances.

Some other recent announcements also give cause to think that we are now moving in the right direction. Yesterday it was announced that BT would invest £1.5 billion in fibre optic cabling. The company had been holding back on this investment in the fear that regulation would prevent it from reaping the rewards of its investment. But the regulator, Ofcom, has now guaranteed that there will be no regulatory intervention for superfast broadband, thereby clearing the way for this substantial private sector investment project to be kick-started.

Another recent announcement guarantees the future of Private Finance Initiative (PFI) projects that had been put under threat because of difficulties faced by private sector firms in securing funding from the financial institutions. The government is prepared to make direct loans in these circumstances. This is a vitally important decision because many such projects are already underway, and offer some of the most 'shovel-ready' opportunities for investment.

In this context, it is perhaps surprising to see that the opportunity for a significant capital investment in the further education sector has been pushed back. Hopefully this missed opportunity can be recovered at the time of the budget.

Northern Rock is to offer £5 billion of new mortgage loans this year, with a further £9 billion to come over period to 2011. The funding for this move comes partly from government (though much comes from repayments and deposits that have come in to the bank). It had originally been intended that the bank would not issue new mortgages, so this represents a major attempt to inject new resource into the housing market. As such the move is very welcome.

The housing market is not the only one in which credit has been constrained, though. Businesses need loans too, and action is still needed to ensure that they have access to funds. Many of the finer details of the second banking bailout will be published later this week, and hopefully there will be some relief for businesses there.

Casey Mulligan has produced a provocative article which suggests that the recession in the US is driven by supply side factors. I have repeated his exercise for the UK, and find that the recession in this country is very much driven by demand factors. Between the last quarter of 2007 and the last quarter of 2008, the fall in employment was very marginal - just 0.1%. The fall in productivity over this period was relatively large, however, at 0.7%. Unsurprisingly in the context of global slowdown, the demand curve for labour has shifted down.

Recent movements in the three month London Inter-Bank Official Rate (LIBOR) give renewed cause for concern that things are not improving in the banking market.

In normal times, the LIBOR settles at around 0.1 or 0.2 percentage points above the base rate, but in the first half of last year it has rose well above that, indicating high levels of fear in the banking sector. At its peak, the gap amounted to a massive 1.3 percentage points.

From the middle of last year till January of this year, the gap narrowed, albeit at a sluggish pace. Before the January change in the base rate, LIBOR had fallen to less than 0.6 percentage points of the base rate. It seemed that, slowly but surely, normality was returning. Since then, however, the gap has widened again, and little of the most recent cut in base rate has fed through into cuts in LIBOR. The LIBOR currently stands at 2.06%, more than 1 percentage point above the central bank's base rate. And yesterday, the LIBOR actually rose slightly, indicating that any significant further convergence with the base rate is unlikely at least in the short term.

Recovery from recession cannot begin until the financial markets are operating at something approaching normality. The evidence provided by the recent behaviour of LIBOR suggests that there is still, even after the bailouts, a considerable amount of anxiety in these markets. In the presence of that anxiety, the banks will remain reluctant to lend, and investment cannot therefore be relied upon to provide the economy with the stimulus it needs. The situation is perhaps exacerbated by the revelation of the extent of losses at HBOS, and the impact that this has on the merged Lloyds/HBOS group. The sooner we can establish what further help this group needs from the public purse, and the sooner that that help is guaranteed, the better.

The Confederation for British Industry has published its latest set of forecasts for the UK economy. They make gloomy reading, with GDP expected to fall by 3.3% over the course of 2009. The recession is expected to end in the first quarter of next year, but with growth in 2010 being extremely slow. Over the 6 quarters of recession, the CBI expect output to fall by a total of 4.5% - this would put the severity of the recession somewhere between the recessions of the early 1980s and the early 1990s.

These forecasts look about right. By the middle of this year, the benefits of reduced interest rate, the fall in the value of sterling, and the dramatic decrease in fuel costs will all have started to take hold. In addition, any fiscal stimulus aimed at shovel-ready projects should be in place. While being very plausible, the global nature of the current recession means that what happens in the UK depends crucially on what happens elsewhere, and, this being the case, any forecasts must be made in a very uncertain environment.

A striking feature of the CBI forecast is the prediction that the rate of inflation, as measured by the consumer price index, will dip slightly below zero in the third quarter of this year. The CBI expects this deflation to be very mild and temporary, not least because VAT is due to rise back to its previous level of 17.5% in the fourth quarter.

An interesting angle on the debate about whether the Bank of England should now engage in 'quantitative easing' (QE) - in effect printing money - is provided by a comparison with experience in Japan.

One of the difficulties with QE is that releasing more money into the economy does not necessarily mean that that money will be used. At a time of very low inflation, people might wait for the real prices of goods and services to drop before spending. So the extra balances of money just lie idle, and fail to stimulate economic activity. In 1999, Japan tried to finesse this problem by way of an innovative form of QE - they issued time-limited shopping vouchers to members of the public (children and some old people). The fact that these vouchers carried an end-date meant that people could not wait long before spending them - and so the economy should experience an instantaneous stimulus.

In a fascinating paper, Masahiro Hori and co-authors find that this experiment did indeed lead to an increase in economic activity in the short run. Over a longer period, the vouchers displaced other spending that would have taken place, though, so that the longer term impact of the scheme was limited. In effect, the scheme encouraged people to prepone their consumption.

There is much that can be learned about QE from this experience. A crucial issue concerns the way in which it is phased - if QE has an immediate impact, but one which wears off quickly, achieving a more sustained impact over the duration of the recession will likely require a sequence of voucher (or new money) issues.

The latest house price data from Halifax points to a slight rise in prices over the most recent month. This goes against the expectations of many commentators. But I have consistently argued that the necessary downward adjustment in house prices is more likely to be realised partly by way of a slow recovery from a more modest price fall than that predicted by more pessimistic observers. See for example my blog entry of 28 August last year.

The correction has some way to go and it is far too early to suggest that house prices have bottomed out. If they have, then that is good news. But the good news has to be qualified by the observation that prices are unlikely to rise by much for a good few years yet.

The Bank of England has again cut the interest rate, this time to 1 per cent. With very low interest rates, concerns arise that the economy may have entered a 'liquidity trap'. This occurs when commercial banks, faced by a low return, become unwilling to lend money that is made available to them through the operations of the central bank. It can also occur when interest rates are so low that individuals and firms prefer to hold idle balances of money, rather than deposit them in the banking system where they could be recycled in the form of loans and thus create new demand. When there is a liquidity trap, further cuts in interest rates fail to stimulate the economy, simply because they do not lead to more money being released into the economy. The money is 'trapped' in the banking system (or under people's mattresses), and is therefore ineffective in raising the level of demand for goods and services.

In such circumstances the authorities are, in effect, denied the use of a major (and, in recent years, the major) tool of economic policy. There remain other levers of policy that can and should be used, however. Fiscal policy should be especially effective during such times, although many commentators have concerns about how long government spending policies take to have their full effect. There is therefore now a desperate need for a large fiscal stimulus in the UK. This should be focused primarily on spending projects that can be implemented quickly and tax cuts that put extra disposable income into the hands of those most likely to spend. The package should ideally be part of a coordinated international policy effort. Of course, the VAT cut was a nod in the direction of fiscal expansion (and, for reasons I have alluded to before, not a particularly effective one) - but what is now clearly needed is a much bigger stimulus, along the lines of the recently announced US package.

Another lever is for the central bank directly to increase the supply of money. Typically this is done by purchasing government securities from the commercial banks, so that these banks have more money. Under some circumstances this might have little effect - the banks have simply swapped low interest securities for zero interest money. But if, by raising the money supply, the central bank can persuade commercial banks that inflation might rise in future, the commercial banks may become more keen to lend out their extra money balances, and hence the liquidity trap can be finessed. This is known as 'quantitative easing' (QE). Whether QE can be effective in the current situation is moot - inflation does not at present seem to be even the remotest threat. But, that being the case, it is at least likely that QE could do no harm, and might even do a little good.

In sum, we are reaching the point where further cuts in the interest rate are futile. Other policy levers, including QE and, especially, fiscal policy now have to come into play in a much bigger way than heretofore.