Public finances again better than expected

Public Sector Net Borrowing (PSNB) was £3.2bn in April, below market expectations of £4.8bn. On a rolling 12m basis, PSNB peaked at the turn of the year, and has now edged down by around £6bn since then. That reduction is somewhat ahead of the government's expectations of a £6bn fall in PSNB over the financial year as a whole (i.e. by March 2011).

Central government receipts were up £4.7bn YoY in July. Both income taxes and VAT receipts were up around £1bn, while corporation tax receipts picked up particularly strongly. Tax receipts in the first 4 months of the fiscal year were up £13bn on a year earlier, a little ahead of the government's expectations of a £33bn rise in the year as a whole. Central government spending was up £2.7bn YoY, with the increases in recent months in line with expectations.

Unexpectedly strong GDP growth in Q2 may have provided some additional boost to the public finances recently. But we expect only muted GDP growth over the next few quarters, averaging around 0.4% QoQ, compared to the average of around 0.7% in the first half of this year. A weaker-than-expected economy could clearly impact upon the public finances: were GDP growth next year to come in around 1ppt below our current expectation of 2.2%, PSNB might be around £10bn higher than otherwise. But at the same time, the recent falls in gilt yields - if sustained - could lower debt interest payments notably: each 50bp fall in yields saves around £4bn per annum in due course.


Nevertheless, PSNB has continued to outperform expectations over the last few quarters as a whole, despite GDP growth tending to underperform. Hence, the cyclically-adjusted public finances have held up better than expected. Looking ahead, the vast majority (8pps) of the circa 9ppt of GDP improvement in the public finances expected between 2009 and 2014 comes from structural increases in taxes (eg VAT) and cuts in government spending: only 1ppt is dependent upon the economy growing at above-trend (above 2.3%) rates.


Retail sales grow robustly again

Retail sales volumes excluding fuel rose 0.9% in July, notably above market expectations of a 0.2% gain. Moreover, that followed similarly robust increases in both May and June. The strength of retail sales over the month accords with the CBI survey, which reported a sizeable boost from discounting and World Cup related purchases. However, both the BRC and the BoE's agents surveys have reported a softening recently.

Retail sales are only around one-third of total consumer spending, and are very volatile on a short-term basis. And they are by no means a bell-weather for aggregate consumer spending: there are large shifts in the composition of spending between retail sales, vehicles, and other items (mostly services) on a quarter-to-quarter basis. So we would not read too much into this data. Indeed, the broader consumer backdrop is that while the labour market has continued to outperform expectations, credit conditions remain very tight, the housing market has slowed notably over the last few months, and consumer confidence has sagged. Thus, with CPI inflation also remaining notably above target, we expect real consumer spending to remain very subdued over the next few months.