FUTURE OF THE ECONOMY
Chancellor rode to the rescue in spring, but now it looks like a difficult choice between spending cuts or tax rises, writes Russell Lynch
In an administration beset by chaos, about-turns and rebellions over Covid-19, A-levels and – inevitably – Brexit, Chancellor Rishi Sunak has had a good war. “Unprecedented” is a word much overused in the response of governments around the world to the pandemic, but little else comes close to describing the firepower deployed by Sunak since March.
A £210bn arsenal of spending and support for a third of the workforce’s wages at peak will this year push the UK’s deficit to levels not seen outside of wartime. His lifelines for hundreds of thousands of businesses, smooth presentation and eye-catching measures such as Eat Out to Help Out have propelled him into the rare club of politicians known by their first name.
“Rishi” may cut through with the public, but from here the going gets far tougher. A likely mid-November Budget is the next challenge, to be delivered just weeks after the furlough scheme comes to an end and with the UK facing its bleakest winter since 2008. A return to the joblessness seen after the shallow but brutal recession of the early Nineties is a distinct possibility as local lockdowns spread.
Rock and a hard place
The Chancellor is torn between the calls for continued support from sectors such as hospitality that have been hobbled by social distancing, and the advice of Treasury officials urging caution.
In a memo leaked to The Daily Telegraph in May, officials wrote that “announcing sufficient consolidation measures in the near-term may enable headroom to be built for the later years of the Parliament”.
More recently, speculation over tax hikes has flared up, with rises in corporation tax, capital gains tax and the drastic scaling back of pension tax relief for higher earners.
While an exceptional deficit of more than £320bn is expected in the current financial year, hawks worry over the medium-term fiscal damage. The Office for Budget Responsibility predicts borrowing remaining above £100bn by the middle of the decade.
Under the fiscal watchdog’s central scenario, the economy has incurred a structural hit of 2.4pc of GDP: that’s almost £60bn of damage that might have to be made up with spending cuts, tax rises, or a combination of both.
Big decisions will wait
So what will Sunak do in November? Follow the Hippocratic principle of “primum non nocere” and defer the big decisions for another day, according to one of his recent predecessors, Philip Hammond. Hammond says the Chancellor’s priority will be supporting the economy; “he will probably defer the big questions” simply because it is impossible to answer them. “I think it will be quite difficult for him to make the big decisions in November and I think he has realised that, which is why he is signalling he will hold a mini-Budget,” he says.
“By the spring we are going to know two things – whether or not there is a Covid vaccine on the
‘I think it will be quite difficult for him to make the big decisions in November – and why he is signalling a miniBudget’
‘The truth is there are not out there the tax rises that are publicly acceptable that will raise significant sums of money’
‘The mantra doesn’t change, it is all about productivity. Anything that will improve it has to be a good thing right now’
horizon, and whether we can start moving back to normality next summer with a view to having a vaccinated population for winter 2021-22, and we are going to know whether we have left [the EU] with some kind of a deal or no kind of a deal – and by spring the kind of problems that no deal brings will become apparent.
“Rishi has potentially got a double shock to address next year. My guess is that he will do some cosmetic things in November and leave the big things until the spring.” Those “cosmetics” could include infrastructure investment, the former chancellor suggests, in the spirit of the March Budget hijacked by Covid-19. “The mantra doesn’t change, it is all about productivity.
Anything that will improve the UK’s productivity and competitiveness has to be a good thing right now.”
However, Hammond opposes some kind of furlough extension – likely to be the Chancellor’s biggest call – on the grounds that it will delay the reshaping of the economy and the reskilling of workers.
Two other recent occupants of 11 Downing Street have meanwhile warned against hasty tax rises, with both George Osborne and Sajid Javid urging him to “encourage the risk-takers”, at a Centre for Policy Studies conference this month.
Spending departments could be targeted for “billions in savings”, Javid said.
Osborne pointed out that “the truth is there are not out there the tax rises that are publicly acceptable that will raise significant sums of money” – at least without breaking manifesto commitments not to raise VAT, income tax and national insurance, which account for more than two thirds of the national tax take.
Stuart Adams, a tax expert at the Institute for Fiscal Studies, argues that with the economy so weak, “in the short run he shouldn’t be looking to raise taxes at all for at least another couple of years”.
Business groups such as the British Chambers of Commerce go further still and argue for the Chancellor to offer tax incentives to encourage hiring, such as temporary national insurance holidays for new recruits, especially with government borrowing costs close to all-time lows and the prospect of mass unemployment
Man with a plan
Over the longer term, experts say Sunak needs to set out a clearer direction for the Government on tax, potentially through a broad-based review of the entire system.
Gemma Tetlow, chief economist at the Institute for Government, points out that the Chancellor is not in a position where he faces immediate financing problems, but argues that a longer-term tax plan and a public discussion would be a useful step.
She says: “There has not been much of a strategy. Where there has been a strategy, it has been on cutting rather than raising tax. There was not much strategy after 2010 on revenue raisers, it has been much more opportunistic.”
Accountants and tax experts say that ironing out inefficiencies in the current system could broaden the tax base, although some suggestions represent political dynamite too explosive for most chancellors to touch. Take raising tax on food, currently zero-rated for VAT purposes.
John Cullinane, tax policy director at the Chartered Institute of Taxation, says: “It’s kind of considered a sacred thing that you can’t tax food. You could compensate the people who really need it through the benefit system and have change to spare.”
According to the OECD, property taxes and consumption taxes are the least harmful to growth, with corporation tax the most damaging; this levy is mooted to rise from 19pc to 24pc in the most recent speculation.
For a Chancellor looking for any kind of revenue he can get in November, more palatable options could include increasing the drive towards tax automation and thus closing the UK’s £31bn tax “gap”, EY’s head of tax policy Chris Sanger argues.
A longer-term tax review could allow Sunak to act after his furlough-style bailout for the UK’s 5m self-employed workers, giving him the political cover to act on national insurance after Hammond himself was forced into a retreat in 2016.
Sanger says: “There’s probably a limited amount of time in which you can make those types of changes and get public acceptance, before the self-employed income support scheme is a long-distant memory.”
For now, plucking tax feathers from the goose is likely to be less of a priority for the Chancellor than nursing it back to health. As Jagjit Chadha, director of the National Institute for Economics and Social Research, points out, “the most important thing in tax is the tax base – it’s the amount of activity in the economy”.
Over-hasty action could be fatal for both the recovery and a potential move next door for Westminster’s new golden boy.