91Èȱ¬

Mumbai: When the Indian central bank raised rates this week, for the fourth time this year, the Bank's governor, Duvvuri Subbarao, said he hoped the change would help keep a lid on the country's inflation - but to really make a difference he was counting on the rain.

"If it rains, the monetary policy works", he said. "We are all of us chasing the monsoon." A poor rainy season last year was the big factor pushing food prices up.

The best reason for thinking inflation may come down in the autumn are the heavy rains that lashed down on the UK delegation in Mumbai (it has rained a lot, as I think I may have mentioned before).

The day after his comments, local papers splashed with the news that two of the lakes that provide the massive city's water supply had already overflowed, weeks earlier than last year. It's a reminder that some facts of life about India have remained the same, even as its economy has started to take off.

Another thing that hasn't changed is India's suspicion of global finance. As I noted in my piece for the TV bulletins last night, George Osborne spent most of his time in Mumbai courting business for Britain's financial services firms.

Before the crisis, people used to say that India's closed financial system was a source of weakness. Not any more.

As you would expect, the Western-oriented businessmen and women attending the receptions and events in the chancellor's honour were often on the side of reform. They would tell me they were hoping to use Mr Osborne as their proxy, pushing the case for greater openness with the likes of governor Subbarao.

But these same pro-market voices also had to admit that with the crisis of 2008 the case for reform was not what it was.

Even when world trade collapsed in the autumn of 2008, the India only shrank by 0.2%. That was the only quarter in which the economy went backwards. There has been no banking crisis in India. There have been no bailouts. (Or, at least, no exceptional ones.)

The chancellor rather danced around the issue in Mumbai. In his big speech to the city's bankers he made a strong pitch for releasing the constraints on UK financial firms in India. As he noted, the likes of HSBC and Standard Chartered have been in India for many decades.

The sticking point is they can only set up a fixed number of local branches, and there's a limit on how much they can own (see my post Osborne in India). Business is good - Standard Chartered made a decent chunk of its profits in India last year - but it is capped.

Mr Osborne was careful to distinguish the question of openness to outside firms from that of regulation, praising the Indian authorities for their "highly effective macro-prudential policies" before the crisis. But I wonder whether the Indian regulators would recognise the distinction.

India's most effective "macro-prudential" tool in the lead-up to the crisis was simply not to let banks do stuff that banks in more open markets could do. Invest in US sub-prime assets, for example.

One senior Indian banker told me about a recent conference of financial regulators from countries - like Canada, Australia and India - that had come through the crisis fairly unscathed.

Along with the mutual congratulation, and surreptitious gloating over the travails of others, they also considered some of the lessons of their experience.

The "most subversive", this banker told me, was an official from Canada. "He said the main reason that Canada didn't get into trouble was they didn't let any foreign firms operate to any great extent in the domestic market. Even the Americans." Naturally, the Indian participants were all ears.

In the wake of this crisis, the case that Mr Osborne - and the domestic supporters of financial reform - have to make now in highly regulated countries like India is that not all financial innovation is dangerous. Even if it is made in the UK.

No wonder Mr Osborne jumped at the chance to launch Monitise, a British joint venture with Visa to bring mobile banking, not just to the 200 million people in India who have a bank account, but also to the much larger number - 600 million plus - who now have a mobile phone.

Even in this new India, people still rely on cash for more than 90% of their transactions - just as they still rely on the monsoon.

That may change in the next few years as a new digital generation comes of age. But after watching what Europe and the US have been through over the past few years, Indians will hold on to its traditional scepticism of clever western banks.

Mumbai: It rains a lot in Mumbai in July. Sheets of rain. Frequently, and without notice. I'm here with the chancellor's delegation and no-one has brought an umbrella. It goes with the general theme of the trip: go with the flow.

There will be no lectures, no talk of poverty, or human rights - just business, pure and simple. Except, business with India is never simple, as George Osborne is discovering.

Strip away all the happy talk about a new special relationship and there is a hard commercial logic to the government's Indian charm offensive this week. You will be bored by me saying it, but for George Osborne's deficit and growth plans to work - in other words, for his entire economic strategy to work - UK firms are going to have to export a lot more to the rest of the world in the next few years, ideally to the parts of the world that are taking off.

His favourite fact is that Britain now sells more to Ireland than they do to Brazil, Russia, India and China combined.

How much can this trip do to change that? Well, Mr Osborne may be right that we start from a stronger position here than we do with Brazil, say - or Russia. There are plenty of ties between the two countries, and they're not all historical.

One of his first stops in Mumbai on Tuesday was Bombay House - the 80-year-old headquarters of Tata Industries. It has probably bought more British-made goods in the past few years than any other company in the world. Alas, not in the form of exports.

As a result of buying Tetley, Corus, Jaguar Land Rover and the rest, Tata is now the single largest manufacturer in the UK. But, with some exceptions, British firms have found it harder to go the other way - perhaps because the sectors they excel in, like retailing and financial services, are the parts of the Indian economy that are still most closed to foreign companies.

Our exports have not kept up with India's tremendous growth. We used to be India's fourth largest source of imports; now we're around 18th.

I asked R Gopalakrishnan, the Executive Director of Tata, whether there was a chance that UK retailers and bankers could get a better foothold in India. He was surprisingly honest: there were indeed barriers to the Indian market for any foreign company in these industries, and those barriers were not disappearing any time soon.

He said he thought the British were pinning too much on services as a way of paying their way in the world. We should get back to our "special skills", in engineering and infrastructure; and those were certainly skills that India was going to need.

As it happens, Mr Osborne also says he wants Britain to get away from what he calls the business model of the past 10 years, where, among other things, the UK put too many of its eggs in the financial sector basket. But you can't help noticing that all the UK businessmen with him for this part of the trip are from the world of finance: the likes of Peter Sands, of Standard Chartered, and Xavier Rolet of the London Stock Exchange.

Then again, you deal with the hand you've been dealt. And this week people here say that one of the most constructive contributions that Mr Osborne could make to British business interests is to lobby senior Indian officials to support legislation currently bogged down in parliament, which would raise the cap on foreign investment in an Indian insurance company from 26% to 49%. Of course, a key beneficiary would be Standard Chartered.

Mr Osborne's other big public event on Tuesday was launching a new solar-powered phone at a Vodafone shop in downtown Mumbai. He says he chose Vodafone because it demonstrates what British companies can do in India where there is free competition. Since buying an Indian telecoms company in 2007 the company has become the country's number two mobile provider, with over 100 million subscribers.

But Vodafone is also reaching a crucial time in a highly public dispute over $2.6bn in taxes which the Indian tax authorities insist are due to them as a result of that 2007 deal. A Mumbai judge will start to hear evidence from both sides next week. Rightly or wrongly, many at the event saw Mr Osborne's presence as a calculated show of support.

However you look at it, he and his fellow ministers are here banging the drum for British business - something which they say the last government didn't do enough. The message of this week is that the old-fashioned trade mission is back (though I don't remember the trade missions of yesteryear featuring Olympic runners and senior officials at the British Museum).

But, awkwardly enough, the Conservatives also fought the last election on the view that Labour had permitted too much immigration. Their plan to cap the number of immigrants to the UK from countries like India isn't going down well here at all.

"There's a Jekyll and Hyde quality to our dealings with the UK which pre-dates this government", one very senior Indian executive who spends a lot of his time in Britain told me.

"When it's the man in charge of getting you to invest in Britain, it's all smiles. But when you're talking to the official in charge of letting your people into the country, it's a whole other story." This man fears the new cap on the number of migrants from outside the EU will hurt relations, even if most big companies can still - eventually - get the people they need.

It's a small issue, in the broader scheme of things. But it goes to a larger point. Mr Cameron and his colleagues say a mature relationship with India will be a game of give and take. That's what this visit is all about. But when you look at what the rest of the world has to offer this new economic powerhouse, you have to wonder whether Britain needs more from India than our new government is willing - or able - to give it in return.

The Business Secretary, Vince Cable, today called for some fresh thinking on how to boost cashflow to Britain businessses, with the emphasis on getting the banks to do their bit. Robert Peston has written extensively on this in the past; I leave it to him to comment on the thrust of the government's approach.

But I am struck, once again, by the disconnect between the macro and micro picture on UK corporate cashflow. We hear a lot about the lack of money flowing to British businesses - the impossibility of getting a loan, and how the government might strong-arm the banks to cough up more loans. All of that is true and important to discuss. But it would be easy to miss, in all this debate, that UK plc is actually in rude financial health.

Come again? Yes that's right. British businesses are loaded. In fact, in the first three months of this year, they ran a financial surplus worth more than 5% of GDP.

As the authors of the latest ITEM Club forecast point out, British companies - non-financial ones - were running healthy surpluses before the crisis and these have actually risen in the past 18 months. The share of corporate profits in GDP is down a little from its peak of 24% at the end of 2008, but at nearly 22% it is still roughly in line with the average for the past 10 years. In past recessions, the story was very different.

As I've commented in the past, the relative strength of company balance sheets before and during this downturn is a key part of the explanation for why the number of corporate insolvencies has been so much lower than you would have expected for a recession this severe - and part of why employment has also fallen by less than feared.

So, you might say that Mr Cable - and everyone else who talks about this - are worrying over nothing; British companies already have a lot of the cash they need to fuel the recovery. But of course, it is not remotely that simple.

First, the fact that many big companies are sitting on mountains of cash doesn't make much difference to all those SMEs who are struggling to get a loan. One of the probable benefits of the Bank of England's quantitative easing programme, especially in 2009, was to make it cheaper for big companies to raise money from the capital and equity markets. Where this was available to them, they often used the opportunity to pay down bank debt. So part of the decline in bank lending last year was indeed due to falling demand, as the banks always argue, not just a decline in supply.

But as the joint Business Department/Treasury paper points out, only 2% of SMEs currently use external equity as a source of finance. A third don't use formal sources of outside financing at all. For the rest, it's bank debt they mainly rely on. And, as we know, banks have often not fallen over themselves to use their excess cash to take a chance on SMEs. Either the loans are not available or, more often, they are there but on much less attractive terms.

So this is indeed an area where creative thinking might be called for, not just on the hardy perennial of getting banks to lend, but also how to encourage smaller firms to make use of other sources of capital.

True, the very smallest businesses are not going to be launching IPOs any time soon. But, as Adam Posen pointed out in one of his first speeches after joining the MPC, other countries manage to provide more diverse sources of funding to their mid-sized companies. It has been a big weakness for the UK in this recession that our corporate sector is so unusually dependent on banks.

This debate will run on. The big point we should never lose sight of is that big corporate financial surplus I mentioned at the start: it is little exaggeration to say that what happens to that money, and the money sitting on bank balance sheets, will in large part determine not just this government's future but that of the entire UK economy.

If you include the financial sector, UK companies ran a surplus last year of close to 8% of GDP. Put it another way: British businesses, taken together, saved enough last year to finance nearly 75% of the UK government's budget deficit. So, as a nation, we were able to come up with the funds to cover all but about 18% of that record deficit. We weren't quite as dependent on foreigners to come up with the cash as we often seem to think.

That sounds like good news. But that high level of corporate savings is also one of the big reasons why the pessimists about the UK recovery are so pessimistic.

Why? Because what that surplus tells you is that companies (inside and outside of the City) aren't confident enough in the future to invest their revenues. Even with a very low cost of capital by historical standards, they think it makes better financial sense to hold on to that cash, or use it to run down debt.

If firms continue to save this much, and consumers either save more or at least chose not to run up a lot more debt, then the government - as a matter of arithmetic - will continue to have a mammoth deficit, whether it has planned for one or not. You might see the structural - controllable piece - of the deficit go down, but slower growth would push the cyclical part of borrowing up.

This is at the crux of the debate between those who support George Osborne's approach - and those who want to cut the deficit at a slower pace. In effect, it all comes down to whether there will be enough private sector spending - ideally, investment spending by domestic firms, and spending on British exports by foreign consumers - to lower corporate saving and also bring down the current account deficit, which you can think of as imported foreign savings.

That's why Mr Cable and Mr Osborne need, and want, to do all they can to get cash in the hands of every British company with a good business plan. That is why they need to make sure that raising bank capital and liquidity requirements over the next few years doesn't cause another sudden crunch in corporate bank lending. And that is why we all have a massive stake in their success.

Predictably, politicians on both sides of the argument over the economy have taken today's figures as support for their view.

For Chancellor Osborne, the strength of the recovery shows he was right to start cutting the deficit faster, and sooner. But naturally Alistair Darling says it shows he was right to support the economy when he did - and that Mr Osborne's plans are putting the recovery at risk.

Surprise surprise, I don't think this one set of figures decides the issue either way.

Mr Darling is right to point out that government spending played an important role in today's growth figure. The coming slowdown in government spending - consumption and investment - is another big reason to doubt that growth at this pace will be sustained. But there's little in today's numbers to suggest that Mr Osborne is about to tip us back into recession.

As we've seen, the lion's share of the extra output in those three months was due to the services sector, and construction. Both were given ample support by the government. The ONS data show that government services accounted for more than 20% of the extra growth.

We also know that public building projects will have played an important role in the jump in construction output - though quite how much of a role is difficult to judge because the lead-times for construction are so long.

New public construction orders recently overtook private ones - for the first time since the 1970s.

Some of those will be housing projects that would come on fairly quickly - so orders from the first quarter of this year could well be showing up in the output data we got today.

But when it comes to schools and hospitals projects, industry experts tell me that it would be new orders from 2009 that would be showing up in the second quarter data. Public non-housing construction orders for schools and hospitals grew by 10% in 2009, while infrastructure orders were up by 44% over the previous year.

So Mr Darling is right to say that he laid some of the foundations for this growth when he decided back in 2008 to bring forward capital spending into 2008/09 and 2009/10.

But the same industry insiders also tell me that long lead-times can't entirely account for the burst in public construction activity in the second quarter. They claim there was also a burst of public sector activity in the lead-up to the election.

If so, that would suggest that the talk of slash and burn contracting and pre-election sweeteners by the outgoing government has some basis in the facts, and helped push up the output numbers we saw today.

Whatever the truth behind the construction rise, it's safe to say that the public component will fall back sharply over the next year - though, given the lead-times, it's unlikely to happen all at once.

But today's figures show strength in other parts of the economy as well - the most encouraging thing about them is that the growth is fairly broad-based, even if the headline number is skewed by that jump in construction. Manufacturing grew by 1.6%. That's the third quarter in a row where growth has topped 1%.

The city commentators are probably right that this will be as "good as it gets" for the UK economy - at least for a while. But that's a phrase that many had prepared in advance - in the expectation of a much weaker set of numbers.

It's right to be cautious. If an annualised growth rate of well over 4% is as good as it gets in this recovery, we could still be getting it pretty good.

Of course, today's first estimate for UK growth in the second quarter of 2010 is a pleasant surprise. After several quarters where the City has been disappointed by the first official take on the pace of the recovery, a figure so far above expectations makes a welcome change. But it's always important not to read too much into one set of figures - however striking. That could be especially important today.

The figures show surprising strength in the service sector as well - up by 0.9%, three times the pace of growth at the start of the year - with much of that growth driven by government spending and business and financial services. But the big outlier in these numbers is construction.

This one sector which accounts for a tiny share of the overall economy was responsible for more than 0.4 percentage points of the 1.1% estimate for overall growth. Construction is thought to have grown by an astonishing 6.6% in the three months after March - after two successive quarters in which it shrank by 1.6%.

This is not to suggest that the GDP figure is wrong (though it will almost certainly be revised one way or another). Output in the construction sector is notoriously volatile. What it does tell you is that, even if this first figure of 1.1% growth does turn out to be right, it doesn't necessarily suggest that the recovery across the entire economy will be much stronger than previously thought.

Strip out construction, and the pace of growth is very encouraging, but broadly consistent with what the surveys have been suggesting - that is to say,roughly in line with the long-term average for the economy, and broadly similar to the early stages of past recoveries.

If this were indeed a normal recovery, you would eventually expect the economy to start to grow well above its long-term trend rate, to make use of all the ready spare capacity created by an unusually deep recession. In that kind of an environment, this 1.1% estimate would not seem so strange.

But in the past year we have seen several European countries grow rapidly at the start of their recoveries, only to slip back into flat or even negative growth.

I'm not suggesting that will happen in the UK. But recent surveys suggest that confidence in many sectors is already beginning to ebb. With so much uncertainty hanging over the UK and global economy, no-one should assume that today's figure is a sign of things to come.

UPDATE 1208: A look back at history puts an interesting perspective on today's initial growth number. The last time we grew this fast was in the first quarter of 2006, and in the past decade there's only one quarter - the first three months of 2001 - in which the UK economy has grown by more than 1.1%.

But, if you go back further - to the mid-80s and mid-90s - quarterly growth of more than 1% was quite common. Then, as now, the economy had some extra room to grow as a result of the previous recession. But this was usually in what you might call the "mature" stage of the recovery, a year or two after the economy had started to look up. When growth has been this strong early in the upturn, it has usually slipped back - often quite dramatically.

To me the most interesting comparison is with the second and third quarter of 1981. Back then, the economy was recovering from five successive quarters of decline. The first recorded growth, in the second quarter of that year, was fairly weak - growth of only 0.2%. But in the third quarter, the economy grew by 1.4%.

This was seen as vindication for then Chancellor Geoffrey Howe, who had appalled all those economists by announcing massive tax rises and spending cuts in the spring Budget. In the end, Britain's recovery was fairly strong. But not before some pretty big bumps on the way.

Ominously, perhaps, the next GDP figure after that 1.4% rise in the third quarter was 0.0. The economy didn't grow at all in the last three months of 1981; six months later it grew by 1.3%, then it stagnated for another six months before growing rapidly for much of 1983. In line with what I said earlier, the quarterly growth rate was more than 1% in three out of four quarters in that year.

I'm not suggesting that past history can tell us what will happen this time - after a very different kind of recession, and a very different kind of fiscal and monetary response. It's also worth noting that policy makers at the time were given a different picture by the ONS. Most of the GDP estimates for the period coming out of the recession in the early 80s have been revised up, though this took place years after the event.

No, the lesson from all these past numbers is more basic: that quarterly GDP numbers tend to jump around, especially coming out of a long recession. There are going to be some big swings in the quarterly numbers before the true pace of the recovery becomes clear.

There's a new drum beat running through the market jungle: ''double-dip, double-dip, will we have a double dip?"

The US Federal Reserve chairman will do what he can to soothe nerves today when he delivers his twice-yearly testimony to US legislators.

If you're only talking about the short term, the good news is that there's quite a lot Ben Bernanke can do to keep the US recovery on track. But for those that are worried about the long-term sustainability of the US and global recovery, there isn't much that he can say to help them relax.

People have been talking about the risk of a double-dip, almost since the recovery began - even though the pace of upturn, in most countries, has been on a par with recoveries in the past. That's because we are coming out of a major financial crisis, and the evidence of past such crises is that growth afterwards tends to disappoint.

Why are we worrying more about a double-dip now than we were a few weeks ago? One big reason is that the US economy appears to be growing more slowly than at the start of the year - and the growth in the first quarter has itself been revised down.

Retail sales in the US fell in June, for the second month in a row, and in the labour market, both average earnings and the number of hours worked have been going down. Most worrying, for monetarists - the money supply is still shrinking. That hasn't happened since the 1930s.

The other big fear is the eurozone: with so much talk of fiscal austerity, the worry is that if Americans stop spending, there even less scope for demand elsewhere to make up the gap.

That fear can be overdone - at least for this year. Greece, Ireland, Portugal have all announced bigger deficit cuts in the past few months - but they only account for less than a 1/6th of euro area GDP. Germany, France and the rest have really only fleshed out earlier fiscal plans - and their tightening doesn't really begin until 2011.

According to Credit Suisse, the extra tightening announced in the key euro countries in the past two months only amounts to about 0.2% of GDP over two years.

But we can safely predict that eurozone is not going to be a great engine of global growth. As I flagged at the time, the IMF now expects the euro area to grow by just 1.3% in 2011, compared to 2.1% for the UK and 2.9% for the US.

The UK has had its own version of the US debate in the past 24 hours, with the Treasury Select Committee highlighting that the budget has increased the probability of another downturn, and the news today that the MPC had discussed the possibility of extra measures to support the economy when it met in June.

I don't expect them to do anything any time soon - especially with inflation now likely to be above target for much of next year. But we can expect them to revise down their now far above-consensus forecasts for UK growth in next months' Inflation Report.

So, yes, it matters a great deal what happens to the US. In its last meeting the Fed's policy committee discussed the possibility of further measures to support the economy, for the first time in a while. Chairman Bernanke will surely entertain the possibility in his testimony later today.

If the bad news keeps coming, the US central bank has options. For example, it could go back into the market to buy mortgage-backed securities and/or US government debt; or it could say that it will not raise interest rates until inflation has reached a certain rate.

By all accounts, they would rather not do either: Kevin Warsh, an influential Fed governor, recently seemed to set a high bar for making fresh asset purchases. And when it comes to future rate changes, even the Fed doesn't want to tie limit its options too far in advance.

All that said, the record of the past few years tells us that the Fed will act if it has to. Those actions ought to be enough to prevent a double-dip.

But the Fed can't solve the basic problem, that the world is once again counting on US consumers - and spending in other deficit countries - to nurse it back to health.

Chinese exports are once again storming ahead. German exporters are doing well too, ably helped by the weaker euro. At the same time, the US - and British - trade deficits are once again going up.

None of this suggests a double dip is on the cards. But it does tell us that the global economy is struggling to learn new tricks.

Update 1817: As I mentioned earlier, many in the financial markets were looking for reassurance from the Federal Reserve Chairman in his latest report to US legislators. The US recovery has lost some momentum in recent weeks - investors wanted to know the US central bank will do everything it can to prevent a double dip recession.

In the event, Dr Bernanke acknowledged the fears hanging over the recovery in the world's largest economy but he did little to put them to rest.

He said the Federal Reserve was willing to take extra steps to support the economy - for example, by buying financial assets, or promising not to raise rates for a certain period of time. But he did not think they were called for yet - and he and his colleagues had not even decided which would work best.

US share prices fell on his remarks, but the dollar rose - and so did the price of US government debt. The yield on 10-year Treasury notes fell to 2.86, and the two-year yield hit a new low. However bad things get for the US economy, investors still seem to think it's safer there than anywhere else.

Where does the eurozone go from here? That's the question I've been looking at today for Radio 4's PM programme.

Seasoned Europe watchers say there only two ways out of this crisis for the eurozone - it could pull countries closer together, or it could break them apart.

That may be right. But in past European crises, there's usually been a muddle-through option - that's what many eurozone governments are hoping to get away with now.

Crucial to how this turns out will be Germany - where many are furious at the way things have gone. They don't like the idea of bailing out other countries at all.

Bailing out Greece - a country that only qualified for the euro on dodgy budget numbers - is about as bad as it gets.

The German chancellor has told them they have to support the massive new safety net for the eurozone, because the future of the euro is the future of Europe - and of Germany.

But the real reason for Germans to support the single currency is that it has served them very well. As other countries have become less and less competitive - German companies have sailed ahead.

Nearly all the growth the Germany economy has had in the past 10 years has been from exports - most of them within Europe. German exports to Greece have risen by 130% in the past 10 years. Greek exports to Germany have risen by less than 10%.

German and French officials also tend not to mention that it was lending by their domestic banks and investors that helped Greece, Spain and others to live so long beyond their means.

The biggest economies in the eurozone are rallying round the big support package agreed in early May, because they think a default by a European government could be bad for everyone. But it's also because they know it would be particularly bad for the French and German banks who are sitting on a large amount of Greek and other sovereign debt.

Supporters of a closer and deeper union say this is the way that European integration has always gone: the economic ties come first, and eventually, the politics has to follow. But it's difficult to see much public appetite coming out of this crisis for deeper political integration within the Eurozone, or massive budget transfers between states.

Then again, most within the eurozone don't much like the break-up scenarios that some are painting. My personal favourite, appealing to tidy-minded but impractical economists, is the idea of having one euro for the super-competitive Northern Europeans and one for the South. (Imagine the fun that France could have deciding which to join.)

So yes, everyone really wants to find a way to muddle through. But if the eurozone is going to get through this without radical change it's going to have to find a way to grow.

Spain, Greece, Portugal and the rest all now face a long hard slog re-balancing their budgets - and their economies. To make the numbers add up, they need a strong domestic recovery elsewhere. Right now no-one can promise they will get one.

The is welcome, but the best news in today's labour market figures is that the economy created a lot more jobs than it lost in the three months to May.

Employment rose by 160,000 - the largest rise in nearly four years.

But, as we've come to expect in this recovery, the rise was entirely due to a big rise in part-time work and self-employment. The number of full-time employees fell by 22,000, to 18.20m.

The other stand-out figure for me - and perhaps the Bank of England - is the figure for earnings growth. Pay, excluding bonuses, rose by just 1.4% year-on-year in May, the lowest rate since the end of last year. That's a 2% real pay cut at a time when the annual rate of CPI inflation was 3.4%.

As we know, things have been even tougher for private sector workers. Earnings in that part of the economy rose by just 0.6% year-on-year in May, though the average over the quarter was a bit better.

The Bank has rightly been concerned about rising inflation expectations. But even if people are expecting prices to rise at a higher rate than in the past, there is little evidence in these figures that workers can expect higher pay to compensate.

The bottom line is that UK households are still seeing a significant squeeze in living standards as a result of the financial crisis, even if more people than expected have found paying work.

And, lest we forget, the squeeze from higher taxes and lower public spending has barely begun.

"Trust me, I'm Sir Alan Budd". That, in effect, was when grilled on the new body's much vaunted independence.

Sir Alan came out of semi-retirement to head up the new forecasting body and at times today he looked as though he was looking forward to going back to it. He was pressed on why the new forecasting body had revised down the number of job losses expected to result from budget cuts - and later released the numbers, just minutes before what might have been an uncomfortable Prime Minister's Questions.

I went into this in detail last week. Understandably, MPs thought it was all pretty fishy.

In his testimony, Sir Alan admitted that the OBR had perhaps been naive, but he insisted that there had been no political interference in the OBR's work. And if you don't believe him... well, how could you not believe him? He's Sir Alan Budd, a distinguished former Treasury civil servant and MPC member with an unimpeachable reputation.

Minutes before the hearing, he released to the committee a detailed explanation of the forecasts, which, if nothing else, should remind everyone just how complicated this predictions business really is.

With this document we now know that applying these changes to the OBR's "before" forecast for public sector employment would have raised the number of jobs expected under Labour's policies by 140,000 by 2014-15. That means that the "after" figure - the number of forecast job losses which are directly attributable to decisions in the Budget - is not 30,000 but 160,000 by 2014-15.

The paper also makes clear that David Cameron was wrong to say that the coalition's policies would lead to fewer job losses over the next two years than under Labour - he was comparing two very different numbers.

Sir Alan did not criticise Mr Cameron for doing this at the time and he didn't take the opportunity to do so today. He did admit that there should have been a stronger health warning on the 30 June release, explaining clearly that the two sets of numbers could not be compared.

It is strange that there weren't any. After all, there were plenty of health warnings in the Budget explaining why differences between the pre-Budget and the Budget - like the fall in the growth forecast, to take a rather important example - could not necessarily be considered the result of Mr Osborne's cuts. The official explanation for the lack of detail had been that the release was rushed out, in response to a leak. But Sir Alan told MPs that the document had already been written for release later in the week. They just brought publication forward to respond to the leak.

The OBR note does make clear that it was not making explicit judgements about future policy in changing their forecasting assumptions in the lead up to the Budget. In many cases, they were actually moving away from the subjective judgements about the future which had gone into previous forecasts.

However, it is still possible to argue that at least one change had the effect of anticipating government policy, even if that was not the stated intention.

Previously, officials had used demographic forecasts and estimates of opt-out rates etc to calculate the likely course for public-sector pension spending. In its Budget forecast the OBR replaced all that with a simple assumption that spending will remain constant as a proportion of the pay bill.

You can see that this has the advantage of simplicity. It also had the biggest single impact on the forecast - at a stroke raising the employment forecast for 2014-15 by 120,000.

But there are known and well-understood demographic pressures pushing up public-sector pension costs over the next few years, included in forecasts by the likes of the National Audit Office. Even if this was not the goal, stating that costs will remain constant as a share of the pay bill has the effect of assuming that policy changes will intervene to keep costs on a stable path, when they would otherwise go up.

So much for the detail. I can't speak for the MPs but you have to assume they believe Sir Alan's protestations. How could they not? He's Sir Alan Budd.

And yet, it is not usually a sign of strength for an institution to owe every last shred of its credibility to the personal reputation of the boss.

Sir Alan said that the past few weeks had been "personally very painful indeed." You can see why.

He also said he hoped that the mud would not stick to the OBR as an institution, which he dubbed a "brilliant innovation". But if it is indeed going to be brilliant, it will surely need to have more to fall back on in defending its credibility than the reputation of one single individual.

We know the eurozone crisis is important, but in the daily talk of "bank stress tests" and "special purpose vehicles", it's easy to lose sight of the big picture: why the crisis has happened, what we should be worried about, and what could happen next.

This week Robert Peston are I will be trying to step back to answer some of those big questions, in a series of essays on the eurozone crisis for Radio 4's PM programme.

Here's the first one, looking at some of the economic and political roots of the crisis. Robert will continue tomorrow with an essay on the funding challenges facing Europe's government borrowers.
___

The eurozone crisis has caught many people on the hop. But there are those who would say it's been waiting to happen since the euro began, and a collection of economies decided to operate with one currency and one monetary policy - but very different everything else.

Many Germans were lukewarm about the euro even then. If it happened they wanted tough rules for entry so only the fittest economies would get in. But there was a bait and switch: in the end it wasn't just a hard core. For political reasons, softer Club Med types - like Greece, Italy and Portugal - somehow squeezed in as well.

Fans of a smaller, fitter euro had their doubts - the debate inside Germany about joining the euro was almost as vigorous - and sceptical - as the one in the UK. But they took comfort in the Growth and Stability Pact limiting national deficits, and the celebrated no bail-out clause (which Germany insisted on putting in). The rules said that countries weren't allowed to run up big deficits - and if they got into trouble they were on their own.

But right from the start, investors decided not to believe the small print. In effect, they decided that being part of the euro gave countries not just the same currency as Germany but nearly the same credit rating as well. They didn't pay much attention to the thought that countries in the eurozone could still, technically, go bust.

Ordinary people and businesses in the Club Med countries were happy to go along - a place at Europe's top table and German-style borrowing rates? What's not to like? But their government didn't mention the catch - that having the same exchange rate as Germany also meant you had to be as productive as German workers and stay that way. In a single currency, you couldn't devalue your way to matching their price.

In the end, the newcomers borrowed a lot - and reformed rather less. Their workers fell behind the hard core, running large trade deficits with the rest of the zone.

Brussels wasn't too worried because most of those deficits came from private borrowing, not governments. But right at the heart of this crisis is the recognition - first by investors, and then by governments that this basic judgement was wrong.

The lesson of past crises is that if a country can't pay its way in the world and is running up larger and larger debts, it doesn't matter much who is doing the borrowing. Sooner or later the problem is going to come to a head.

When a newly elected Greek prime minister stood up last autumn to announce that the old government had been borrowing far more than previously thought, investors finally started to ask themselves whether there was a risk to lending to Greece after all. And, looking around, they noticed that a lot of private borrowing in the boom years was now showing up on other governments' balance sheets as well. Spain had a budget surplus of 2% of GDP in 2007. Just two years later, in 2009, that surplus that had turned into an 11% of GDP deficit.

From then on, it's all been about the end game: what will happen to all that debt, will governments get bailed out, and what will all of it mean - for the eurozone economy and the messy compromises on which the single currency was based. That end game still has plenty of time left to run.

It might be desirable. But is it possible? That's the question some are starting to ask about the government's Office for Budget Responsibility.

You can see why you might want a body to produce official budget forecasts that are untainted by politics. Alistair Darling now says he thought of creating one himself. But if they're the forecasts on which the government's economic policy is based, you also need these forecasts to be based on the best possible information, meaning information available only deep inside the Treasury.

So, to put it in a way that Bill Clinton would recognise, you need the OBR to smoke the same stuff as the Treasury, but not inhale.

Only Mr Clinton knows whether that was possible in his case. But when it comes to the OBR, I am beginning to have my doubts. After all, the closer the OBR is to the corridors of power, the more it's going to know - but the more it knows, the more its independence is going to be put under strain.

Take the latest news, , that the OBR made changes to its forecasting assumptions in the days leading up to the Budget which greatly reduced its forecast for public-sector job losses over the next few years.

In a press release issued on June 30, the OBR forecast that around 490,000 public sector jobs would be lost by 2014-15. Under the old Labour government's policies, it forecast that job losses would have been almost as great - around 460,000 - despite the fact that the emergency Budget had instituted faster and deeper cuts in public spending.

That release had already raised eyebrows, since it permitted the PM to . Now we know that the two figures were calculated on the basis of different assumptions about the pace of public-sector wage growth and the future cost of public sector pensions.

Without these changes, the predicted job losses in the public sector as a result of the government's Budget plans would have been much higher - perhaps as much as 175,000 higher.

Some of the changes to the forecast were based on explicit government policies announced in the Budget, such as the two-year wage freeze for most public sector workers. Other things equal, this would have the effect of lowering the number of job losses for a given public-sector pay bill.

However, other adjustments represented what the OBR believed to be more "plausible" assumptions about what would happen in the future - for example, to the relative size of the public-sector pensions bill. In effect, the OBR was making a broad judgement about the future direction of government policies, before those policies had been put into law.

The head of the OBR, Sir Alan Budd, will answer questions on this and many other matters before the Treasury Select Committee next week. No-one is suggesting he was acting on orders from Mr Osborne or anyone else in the government.

You could also say the assumptions on which the new figures were based were perfectly plausible. If the government's first reforms of public sector pensions don't put a lid on the relative cost of these obligations then Mr Osborne will surely keep trying until they do.

The plausibility of the changes is not the issue. Nor is this about the integrity of the individuals involved. It's about the difference between "independent" and Independent.

Ask yourself the simple question - would the Institute for Fiscal Studies have acted as the OBR has acted? I think it is almost inconceivable.

In making its forecasts, the IFS sticks to official government policy. Where it has been forced to make a further assumption, it says so. Where two sets of numbers are not comparable, it also says so, stating clearly the differences between the two.

The June 30 release was a rush job, brought out in response to a Treasury leak - doubtless if they had to their time again, they would do it differently. And of course, every new institution has growing pains. Some questioned whether the MPC was truly independent when it first started.

All of that's true. But I do wonder whether the phrase "independent official forecast" will turn out to be a contradiction in terms.

The chancellor seems to think that "independence" consists solely in not taking instruction from him. But we all know that independence is not just a technical fact - it's a state of mind.

That is not something you can fix simply by geography, though it will certainly help to have the OBR based outside the Treasury, as it now surely will be.

Perhaps the successor to Sir Alan will do a fantastic job, maybe working out of a backroom at the IFS. But the lesson of the past few weeks must be that his or her task is, if anything, even harder - and even more nuanced - than we previously thought.

The (MPC) hasn't changed its - .

In the past three months the Fund's economists think our growth prospects have got notably worse, even though their .

Back in April, the Fund was expecting the UK economy to grow by 2.5% in 2011. In today's update that prediction has fallen to 2.1%. The forecast for 2010 has been nudged down as well - from 1.3% to 1.2%. This is at a time when the global growth prediction for 2010 has been revised up by 0.4 percentage points, to 4.6%.

The Fund doesn't spell out why it is now more gloomy about the UK, but I am assured that last months' Budget is the reason. The report does highlight the tightening in fiscal policy which has occurred in the eurozone in recent weeks (see chart below) - which it reckons will cut growth in those economies by about 0.25 percentage points in 2011.

Of course, the main economic "event" since the IMF put it April forecasts together has been the financial market turbulence across the channel.

Interestingly, it does not think that turbulence alone will affect growth: it says "the negative impact of tighter financing conditions will be countered by the positive effects of a weaker Euro."

The negative impact on Europe's prospects for recovery come only through the decision by governments across Europe to tighten fiscal policy more rapidly than planned.

There isn't any suggestion from the Fund that governments have acted unwisely - it says the pace of tightening for 2011 is now "broadly appropriate", and that it was important for countries "facing sovereign funding pressures" to embark on immediate fiscal consolidation. George Osborne would say that means us.

But there are warnings here for both eurozone governments, and our chancellor.

On the eurozone, today's downgrade means that the Fund is looking at just 1.3% growth for those countries in 2011 - much slower than the UK - with faster growth in Germany and France offset by very weak growth for Spain and others.

What is more, the Fund is keen to stress that even this weak recovery "hinges on the use, as needed, of the European Stabilization Mechanism...and, more important, on successful implementation of well-coordinated policies to rebuild confidence in the banking system."

Put it another way - even that rather sombre forecast depends on European governments getting their act together in a way they have generally failed to do in their response to the crisis to date.

The other warning, which applies to the UK but also the advanced countries as a group, is that the "downside risks to global growth have risen sharply" since April, ie - the world has become an even scarier place.

Naturally, the greatest short-term risk is another round of financial market turbulence, driven by concerns about eurozone sovereign risks. In line with the report it gave G20 leaders in Toronto (see my post IMF says G20 could do better), the Fund thinks that another financial market shock could ultimately cut global growth by 1.5% percentage points in 2011.

But as we know, the other big risk hanging over the world economy comes from precisely the opposite direction. This is the risk that, in their rush to reassure markets about government borrowing, governments will push through "an overly severe or poorly planned fiscal consolidation" which ends up stifling domestic demand.

Oh yes, and they also have to worry about how - and how quickly - they are going to reform the financial system, and the potential impact of those reforms on bank lending and economic activity.

All in all, the IMF says that navigating past these risks will provide "daunting policy challenges" to governments in the months ahead. You can say that again.

The government has stolen some of the thunder by putting public sector pensions on the agenda so soon after the election. But ministers will be grateful to this independent group for .

Public sector unions will note that the report has been sponsored by the and the free market think-tank, the . But at least one of the report's authors - Ros Altmann - has often been on workers' side in calling attention to the dwindling state of private pensions. Others, such as Peter Tomkins, of the , are recognised experts in the field.

Many of the key facts and arguments in the study will be familiar to readers of my and Robert Peston's recent posts on the subject. In essence, the report says that the official statistics are not capturing the true cost of the promises being made to public sector workers in unfunded pension schemes (which means most of them - the big exception being workers in local government, which have funded pension schemes.)

When the government estimates what its future pension liability is worth, it uses a fixed real discount rate of 3.5%. If you do that, the future promise of a guaranteed pension that members of public sector schemes clock up each year is worth about 20% of their salary - which is roughly what employers and employees pay the Treasury to take on that future obligation.

But right now, real interest rates are much, much lower than 3.5% - meaning that you would need to put aside a lot more than 20% of salary today if you wanted to meet that future pension obligation in the future. (Anyone who has recently looked into the price of annuities will grasp the problem.)

If you discount the pension promises by 0.8%. which is the current real interest rate on indexed-linked government debt, the report shows the true cost of these schemes is more like 40% of salary - or more than 70% in the case of police officers and firemen.

Is that the right way to value the promises? I think it depends what you are trying to capture.

If you want to show public sector workers what their pensions would cost if they were replicated in the private sector, then this is clearly the right figure. Right now, 40% is what a funded pension scheme would need to put aside to be sure of meeting the future obligation (the report recounts the Bank of England going through exactly this process with respect to their scheme).

This is worth doing - as I said in that earlier post, public sector workers ought to know what their pensions are worth, for the sake of transparency and for their own sake in comparing their public sector job with one somewhere else.

Equally, if you want to "mark-to-market" the obligation on the government's balance sheet, as many private companies must, this is right discount rate to use. But there is a reason that these schemes are not funded - it is because they are provided by the government.

The government can do things that private companies can't, because it has the unique capacity, through the generations, to raise tax revenues to meet its future obligations. It doesn't have to go out and sell gilts on the market right now to meet all those future promises (even if some people would like it to).

So you could also make a case for discounting the stock of liabilities at a long-term average real cost of borrowing for the government, rather than the rate at this one point in time. On that basis, the government discount rate still looks too high - but not quite as bad as the commission suggests. For 10-year index-linked gilts, the average yield since 1984 has been 2.9%, though that average is clearly falling over time.

Apparently, the Treasury put a similar argument to the commission. In response, the report calculates what public sector pensions are worth using a discount rate of 2%: the 40% figure falls to about 27%.

Anyone involved with private sector pensions knows how much "pension deficits" can change, depending on the discount rate used. The answer given by economists tends to be that there is no right answer - you use different rates to capture different things.

But the basic argument of the report is hard to quibble with: public sector pensions may be "affordable" in their current form, but it is difficult to believe they are sustainable, at a time when private-sector pension provision has fallen so far.

Only 11% of private sector workers are in final salary schemes today, but 94% of public sectors workers are. Well over 50% of private sector workers don't have any employer-sponsored pension scheme at all.

This report's greatest contribution to the debate lies less in the scary numbers but in the range of options it offers for reform, and in the words of good sense it offers to those who must come up with proposals on this for the government - for example, they make the point that the prime minister's promise to cap public sector pensions at £50,000 a year will do very little to cut costs because it would affect relatively few retirees. The real savings come from capping the salary on which pension benefits can be accrued. The report reckons that a £50,000 cap on pensionable salaries in the civil service would cut costs by 2.3% - not a huge amount, perhaps, but far more than a similar cap on the pension that can be paid out.

This is no page-turner (at least for normal human beings). It is, after all, about the ins and out of public sector pensions. But any minister who wants to lay down the law on the subject would be well advised to give it a read.