Insider Media Limited

The problem of the UK government’s budget deficit is well known but it is worth repeating that the UK has the largest deficit (as a % of GDP) of any OECD country.

The task of deficit reduction is the key policy plank of the coalition government which has set itself a target of eliminating the deficit over four years. They are doing this by a combination of tax increases (notably a VAT hike) and unprecedented cuts in public expenditure. The government holds the view that contracting the size of the public sector will facilitate a regeneration of the private sector particularly in relation to manufacturing industry and export markets on which much of the future prosperity of the UK will be based. An irony of this is that there are now increasing concerns that these policies will actually damage the private sector not help it. There are four main aspects to this:-

• Direct providers of public services - Some businesses are direct providers of public services paid for by government and they are already feeling the impact. Mouchel, which provides maintenance for Britain's highways, warned that its full-year results would be at the lower end of expectations as a result of spending cuts. The UK's biggest care home operator, Southern Cross Healthcare, has seen a reduction in admissions to its care homes from local authorities with the result that it will miss analysts' profit forecasts for the full year.

• Suppliers of goods and services to the public sector - Many businesses rely on public sector procurement of a wide range of goods and services for a large part of their turnover (e.g. energy, consumables, equipment). Again there are already serious impacts. The services sector purchasing managers’ index in June showed a record drop in expectations for business, larger even than during the deepest months of the recession, while there were growing reports of weaker demand from the public sector.

• Construction industry - The construction industry is an area of activity on which many other businesses are dependent. It has suffered a hard time in the past few years and things might get worse. Construction group Morgan Sindall, which fits out offices and builds schools has reportred a 3 per cent fall in first-half profit. Moreover it has been suggested that the results of the public spending review in October will reveal cuts of 35-40 per cent in construction funding which could hit the building of school, roads, hospitals and social housing.

• Consumer confidence - The tax increases proposed in the last budget coupled with the pending loss of hundreds of thousands of public sector jobs has damaged confidence among potentially millions of consumers thus impacting on (already fragile) consumer demand. Shoppers also appear to be holding back. Retail sales growth has slowed and businesses fear that consumer spending will suffer this year as public sector jobs are cut and incomes are squeezed.

It has been forecast that between 2010 and 2016 there will be a net loss of nearly 50,000 public sector jobs across the West Midlands. Based on the ratio of the number of private sector jobs dependent on public sector spending and the associated supply chain nationally, a further 310,000 jobs are at risk at private sector firms directly or indirectly reliant on public sector spending. These are huge impacts.

Not surprisingly many independent commentators, including the author, question the merits of current Government policy since they believe that while the Government deficit must be reduced the pace of reduction is too quick and risks economic slowdown or re-entry into economic recession (the so-called double dip recession). They further argue that the financial markets who welcome fast deficit reduction may be more scared by another recession in the UK than by a slower pace of deficit reduction. A loss of confidence is the financial markets could be calamitous.

So what is to be done? Well, while large parts of the private sector are often seen as hostile to the public sector and would like to see public expenditure scaled back, maybe they ought to consider whether the current policy is in their best interests.

The two sectors are strongly intertwined and it is naïve to think that a loss for one means a gain for the other. Perhaps, through their representative organisations, businesses should be lobbying for a change in Government policy to have a slower pace of deficit reduction. Also maintaining levels of capital investment will provide much needed support to the construction industry and will improve the nation’s poor infrastructure on which economic progress relies.

Malcolm Prowle is professor of business performance at Nottingham Business School and a visiting professor at the Open University Business School