Fiscal charter: Everything you need to know about George Osborne's latest political manoeuvre

MPs are about to vote on what is called the "fiscal charter", which will change how the UK government manages public finances. But what is it? IBTimes UK details everything you need to know.

What is the fiscal charter?

The Charter for Budget Responsibility, also known as the fiscal charter, has existed since 2011 when it was first introduced by Chancellor George Osborne under the Budget Responsibility and National Audit Act 2011. The charter sets out the framework under which the government will manage its debt and public finances. Each year, it is reviewed and put before parliament. Now the Conservative Party has a majority, and is not restricted by the Liberal Democrats in a coalition government, it is tightening up the charter.

It is putting into law that governments must target a surplus in their budgets rather than run a deficit – in simple terms, more money must come in than goes out. But the surplus target will only apply in "normal" times. This is intended to give some flexibility to chancellors facing an economic emergency and who may have to crank up government spending. The Office for Budget Responsibility (OBR), an independent fiscal watchdog that gives economic forecasts to the Treasury ahead of its budgets, determines whether or not the situation is "normal".

"If annual real growth in the UK economy is less than 1% the OBR will judge there to have been a significant negative shock, and the economy will be out of normal times," says a parliamentary briefing paper. "If the OBR judges that a negative shock has occurred, or will occur over the forecast period, the fiscal targets will be suspended. The Treasury must then set out a plan to return the budget to surplus including temporary fiscal targets. The plan must be approved by a vote in the House of Commons."

Why is the surplus rule being introduced?

Britain's public finances were left with a huge budget deficit equivalent to 11% of GDP amid the global financial crisis, when a deep recession tore through the economy. The purpose of the government's current austerity programme, comprised mostly of cuts to public spending, is to close this deficit.

Osborne claims his total budget surplus rule will help prevent deficits being created unnecessarily in the future, making public finances healthier and sustainable. "By adopting fiscal rules or frameworks, which constrain their behaviour, governments can signal that they will not adopt these short-term policies and can thereby give their fiscal policy increased credibility," says parliament's briefing paper.

At least, that is what he says. Osborne has a reputation as a hard-edged political tactician. And this looks more like politics than economics. Not least because back in January 2010, before he became chancellor, Osborne lectured Labour in parliament about something similar: "Let us remember what one of the economists whom the prime minister [Gordon Brown] himself appointed to the Monetary Policy Committee has said about the Bill. Willem Buiter has said: 'Fiscal responsibility acts are instruments of the fiscally irresponsible to con the public.'"

But it does sound like a good idea. Why isn't it?

Proponents say it will pressure governments to act responsibly with public finances and put the wider economy on a surer footing. And it will give business, markets and the public a clearer idea of the path of fiscal policy. Moreover, it is part of a broader effort by governments across the world, mopping up after the financial crash, to restore credibility to their public finances.

Yet many economists are critical of using the law to enforce fiscal discipline. It is impossible to predict the future. Chancellors need the flexibility to borrow and invest if the economy worsens, which would probably mean opening up a deficit. The new fiscal charter could restrict and delay their response to urgent economic crises, in turn making them worse. And others would dispute that running a small deficit is acting in a fiscally irresponsible way, which this law implies.

Running a small deficit is seen as fairly standard across the world for countries with their own independent central banks. It is not extreme or radical. Most of the countries producing a budget surplus are either tiny or have vast natural resources, such as oil.

In July, the OBR said in its forecast: "The [UK] public sector has run a surplus in only five of the last 40 years – and in four of those that was only because economic activity was running above its sustainable level (at least with the benefit of hindsight)."

Will it actually change anything?

Because it is primarily a political tool, probably not much. Osborne is targeting a surplus anyway. And there is some flexibility built into the charter, as we have seen above, even though it is problematic. Also, no parliament can bind future parliaments, meaning the surplus rule can be overturned in the future anyway. And it probably will be, or at least amended, if Labour wins in 2020.

But it does present Osborne's opponents with a difficult political problem, which is probably his intention all along. They are instantly on the back foot – we should not envy the person who has to scrap the "Charter for Budget Responsibility", or even just the surplus target, because by implication it appears they are acting imprudently.

Should Labour campaign to get rid of it, the Conservatives can accuse them of not being fit to run the economy – a message that, whatever its real merit, has broadly been accepted by voters and plays well for the Tories. So this is the real consequence of the surplus target: changing the political climate further in the Conservatives' favour.

What will happens if they break the surplus rule?

It will look politically bad and damage the credibility of the government, and it could even trigger a resignation or two. But, under the law, the government can always change the charter's mandate and remove the surplus target – then put it before parliament. "The Treasury must explain the reasons for any departure from the previous objectives and/or the mandate for fiscal policy," says the Treasury's charter document. Or, as governments past and present have been known to do, they can use some creative accounting to make the numbers work.

What does Labour think?

Labour has, once again, been outfoxed by Osborne. Although, that is probably giving the chancellor too much credit. Labour seems to have been the cause of its own undoing. The shadow chancellor, John McDonnell, originally appeared to back the surplus target, even though he is anti-austerity.

He believes surpluses can be achieved by growing the economy to boost Treasury revenues, rather than cutting back spending. And, under previous charters set out by Osborne, investment had been left out of the calculations. So investment in infrastructure projects, such as HS2, would not be counted.

But this version is for the total budget, which includes such investment. McDonnell, who wants to launch a massive public investment programme, later backtracked, to the annoyance of some on the Labour benches, and said he would not support the fiscal charter in its proposed form.

One senior Labour MP called it "a f*****g shambles". The party's credibility has taken a battering over the U-turn. Some say Labour should have opposed the surplus rule from the start and had a consistent message. Now Osborne has been given the upper hand; he is calling on "moderate" Labour MPs to rebel against their party and vote through his surplus target. This suggests that those who oppose the target are not moderate, and hold a radical view, even though what is actually unorthodox is strangling public finances with legislation.

But the Conservatives have a majority, so will undoubtedly pass the new fiscal charter, surplus target included, when it goes through the Commons on 14 October.