Budget cuts - what cost to business?

Businessmen in every country with a high budget deficit are demanding that governments balance their books. But when closing the financial deficit means taxing companies or cutting orders, those same businessmen are less keen on any measure that could impact on their own operations. It is a dilemma for politicians, who know that the public funds they spend come ultimately from those private enterprises and it has put the United States administration in conflict with governments elsewhere.

The newly-elected UK Conservative administration is set on severe spending cuts to help reduce its deficit and is using Canada’s budget reduction from the 1990s as its model. Some other European countries are having to make even harsher cuts to ensure banks continue to support their beleaguered economies. Yet US president Barack Obama, now focusing on the next elections rather than the last one, is being modest in his cuts, fearful of the effect they will have on American business.

Some companies - from defence suppliers to drug manufacturers and outsourcing companies - are highly dependent on government orders and will be hit hard by cuts in public spending. In the US, for instance, one of the limited cuts involves purchases of Boeing’s C-17 cargo plane and the manufacturer explains: “Due to a reduction in orders, Boeing has made the difficult, but necessary, decision to reduce the number of C-17s produced every year from 15 to 10”. In Britain, Connaught, a provider of social housing has had government contracts cut and – just before resigning – chief executive Mark Tinckell – admitted: “The company has identified 31 contracts where a proportion of the value has been deferred. This will impact revenue by around £80 million in the current year.” In fact the future order book is down by £300 million and, for a business previously making just £26 million profit, the impact of its share price was catastrophic.

BUDGETS OF YORE
UK chancellor George Osborne is unrepentant, however. Before the general election he met the team that had advised Jean Chrétien when the Canadian Liberal prime minister produced the 1994 “Bloodbath budget” that turned a 9 percent budget deficit into a surplus in three years. The Ottawa government was ruthless in cutting public spending by 20 percent, not sparing defence, education or foreign policy, which some governments still see as sacrosanct, despite the loss of thousands of jobs. Chrétien’s policy was to decide what to keep, not what to cut.

Osborne, though a Right-wing politician, admits: “The irony is that understanding that fiscal responsibility is at the heart of good progressive government was the great insight of the new Left in the early 1990s”. Indeed, the UK minister is also modelling his cuts on those of US president Bill Clinton and his treasury secretary Lloyd Bentson. His praise for Clinton’s tough decisions may be an oblique criticism of the current Democrat president but he adds: “The Canadian Liberals were able to exercise the spending restraint necessary to restore confidence in Canada’s economy and make future progressive policy advances possible.”

But while the message rings well with many businessmen, they fear spending cuts and tax rises will hurt their companies in the short-term. Even firms that do not rely directly on government for orders are concerned that money taken out of the economy to balance the budget or repay debt is less money to pass through their tills. Osborne’s £156 billion annual deficit is an even higher proportion of gross domestic product than Canada’s was in 1994 and he has increased the UK’s sales tax – value added tax – from 17.5 to 20 percent to reduce it. That concerns retailers, restaurants and suppliers of the many goods that will face a price hike because of the higher tax. There is also concern at companies involved with capital projects such as new railways and roads that have been axed or postponed, and research projects that have been deferred.

And cuts in one country affect companies in another. When the new UK government reversed an £80 million loan that its predecessor had promised to Sheffield Forgemasters to build a 15,000 ton press for making nuclear power plants, the loss was felt in the United States where Westinghouse Electric had committed to £50 million of orders. The UK firm’s chief executive, Graham Honeyman, is looking for ways to keep the deal alive and keep Westinghouse on board but says: “We have to accept that the public-sector loan element of the funding package is no longer available as an option.”

FOREIGN TRADE, FOREIGN CONCEPT
European companies are hoping to substitute lost sales in their own countries with exports, but in the US, Westinghouse and Boeing are exceptions in selling abroad: most American companies operate almost solely within their domestic market and are not geared up to dealing with foreign customers who speak different languages, have different currencies and demand metric specifications. That may explain why president Obama is reluctant to damage his economy with steep cuts.
Georgina Taylor, investment strategist at fund manager Legal & General, warns: “The upward pressure on the US dollar could act as a drag for US exporters, in particular those US companies who have a high proportion of sales to parts of Europe where final demand is likely to remain weak.” However, she warns too that American demand is being buoyed by benefit payments from the government, rather than wage rises, which she thinks is unsustainable and will ultimately hit US companies’ sales as well as their taxes.

Yet there are companies that rely on government orders for their revenue that see public-spending cuts as an opportunity rather than a setback. Capita is a major UK company employing 38,000 staff supplying services to central and local government, plus public education, health and transport operations. Half its turnover comes from the state but chief executive Paul Pindar believes that when money is tight, the public sector will be more inclined to use companies like his.

“There remains an imperative to address the fiscal deficit,” he admits. “Therefore we continue to increase our focus on the central government market. We believe that outsourcing will play a key role in helping government to introduce efficiencies and deliver quality public services. We are well placed to help in this.”