The government came into office promising to prioritise economic growth. Now, after their first Budget, I suppose we have some idea of what that means: more borrowing to fund public sector capital projects, and higher tax and regulatory burdens on business. This does not seem very likely to prove a successful recipe, and furthers the impression that this government is likely to fall into the same trap that ensnared its immediate predecessors: managing Britain’s relative economic decline, with no clear idea of how to break out of it.
The biggest single item in the Budget is the £25 billion increase in employer National Insurance contributions. There are a few things to say about this. First, it is a tax on labour income and therefore a tax on workers. (It is also, by definition, an increase in National Insurance – which the government pledged not to increase.) The fact that it is paid by employers makes no difference. In the long run (and probably sooner) the incidence is on employees, who will lose out in the form of wages that are lower than they otherwise would have been, less generous benefits, or fewer job opportunities. All of this reduces the amount of revenue that the tax hike will yield.
On most of these counts, the government is already heading in the wrong direction
Second, this is essentially a stealth tax – an increase that the government is trying to conceal from the people who will ultimately pay it. Other significant tax increases in the Budget fall into the same category. It is obviously a relief that tax thresholds will not be frozen beyond 2028, but until then many more people will be dragged into higher rates of tax. We already endured plenty of this under the Conservatives: the threshold for the top rate of tax almost halved in real terms; the number paying the intermediate, ‘higher’ rate more than doubled. Soon enough, that 40p income tax rate – originally intended for rich people – will kick in at just twice the minimum wage.
Speaking of which, it is important to remember that the employers National Insurance increase is not arriving by itself. Increases to the minimum wage are absurdly high thanks to a short-sighted Tory commitment (imagine!) to link it to two-thirds of median earnings. Bosses are extremely worried about the government’s planned changes to workers’ rights, and with good reason. It is just eighteen months since the main corporation tax rate went up by nearly a third. The pips are bound to start squeaking soon.
The irony is that, in isolation, employers National Insurance is a relatively efficient tax: it applies a flat rate to broad base, and does not distort people’s saving and investment decisions – unlike Capital Gains Tax, say, which the government has unwisely raised in a further blow to Britain’s international competitiveness (the term ‘death by a thousand cuts’ springs to mind). One can imagine a reformist chancellor shifting the tax burden towards employers’ NI as they pursued pro-growth cuts elsewhere – and it being an attractive compromise. But we are a very long way from that world at the moment.
What about the spending side of the equation? Or ‘investment, investment, investment’, as the Chancellor put it in her Budget speech. The big move here is a change to the fiscal rules that will apparently let the government borrow a lot more money. Obviously this isn’t actually how gilt markets work – it is mostly a political fiction – but never mind that. The question is whether public sector capital spending will do much, if anything, for growth.
There are many worthy projects that could improve public services and some – like eliminating transport bottlenecks – that could spark genuine economic benefits. But the overall economic effect of public sector capital spending is likely to be low, since public sector investment decisions are generally not made with returns (or trade-offs) in mind. A better approach would focus on eliminating barriers to private sector investment, of which we have many, instead of placing too much faith in the power of an inevitably bureaucratic and politicised state.
The contours of a genuinely pro-growth agenda are easy enough to define, even if the detail still needs a great deal of work. We need a concerted programme of supply side liberalisation, chiefly to make all kinds of development cheaper and quicker, to make energy less expensive, and to make the labour market more flexible. We should also pursue comprehensive tax reform, shifting as much of the tax burden as possible on to consumption rather than income and investment. On most of these counts, the government is already heading in the wrong direction. On development, at least, there is still hope – even if Budget announcements on stamp duty do not prompt much optimism about this government fixing the fundamental inefficiencies in our land and property market.
It is worth acknowledging that the Chancellor was not dealt a good hand at this Budget. I would not have wanted to be in her shoes. Growth is weak, spending pressures are rising, and taxes are already at a historic high. Yet somehow Rachel Reeves had to make the sums add up – or at least appear to. And this is to ignore the looming tidal wave of age-related liabilities that will hit us as our population grows older. The trouble is that without a radical, reformist approach, any government facing these headwinds is likely to get stuck in an attritional downward spiral – and thus doomed to eventually leave office with things no better than they found them. On today’s evidence, that does seem like an all-too-plausible outcome.
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