November’s Autumn Statement is fast-approaching, and with it the debate about tax cuts. Former Prime Minister Liz Truss has called for cuts in certain taxes – in particular corporation tax.
Jeremy Hunt has said that tax cuts are “virtually impossible”, though many political analysts believe he will inevitably find something to cut when it comes to his Budget in the Spring since that will be his last chance ahead of the general election.
Hunt says that the key reason he can’t cut taxes is inflation. That’s pretty obviously wrong in the narrow sense he emphasizes, namely the Government’s target of halving inflation this year.
Meeting or missing that target is already baked in, as a consequence of the interest rate decisions the Bank of England has made over the past two years.
Tax cuts in November aren’t going to have the slightest impact upon that. But there is a broader sense in which there may be a connection between taxes and inflation over the longer-term, and the story behind it is not a happy one.
The UK is this year (2023-24) scheduled to run a large budget deficit of around 5pc of GDP, having run a deficit at that level in the previous two years, down from 15pc in the Covid-affected year 2020-21.
That has taken government debt from 85pc of GDP in 2019-20 to 103pc this year. That’s an astonishing rate of debt accumulation in a very short space of time, especially given that rapid price rises have inflated a portion of the debt away.
The reason the deficit has become so high is that the Government has lost almost all its spending discipline since 2019.
Total government spending was only 39.5pc of GDP that year. It was perhaps understandable that it spiked up to 53pc in the Covid-affected year.
But what is much less excusable is that spending did not return anywhere near its pre-Covid level after the pandemic ended, is scheduled to be over 46pc of GDP this year, and even at the outer horizon of government spending forecasts (if one believes them) is scheduled to be well over 43pc still, in 2027-28.
Hunt and Sunak pitch themselves as the grown-up, responsible folk, focused on fiscal discipline instead of short-term headline-chasing. But what they have delivered is an incontinent flood of spending extending as far into the future as the forecaster’s eyes can see.
If the Government’s policy is to make the massive increases in public spending of recent years permanent – and it seems pretty clear that it is – then of course tax cuts (at least in aggregate) are out of the question.
But why should we accept that it is impossible to get spending back to the levels it had in 2019-20 – or, better, to the levels lower than that George Osborne had scheduled when he was still Chancellor?
Maybe that is politically impossible, but aren’t Hunt and Sunak the ones who claim they tell us unpleasant truths even if they are politically unpalatable, preferring them to “economic fairy tales”?
Perhaps part of the reason Hunt feels safe to declare impossible this kind of option – cutting spending back to pre-pandemic levels, relative to the size of the economy, and therefore obviating the need for taxes to rise so much – is that cutting public spending relative to the size of the economy will require cutting the NHS relative to the size of the economy.
The NHS is now such a large portion of public spending that no politician claiming to be in favour of cutting public spending who does not acknowledge that means the NHS budget shrinking relative to the size of the economy is in any way credible.
Yet no politician believes they can argue for that and survive.
On the other hand, the currently-scheduled tax rises are probably not credible. The UK economy has not been able to generate more than 40pc of GDP in taxes, for any sustained period, since the 1940s.
Hunt’s plans of at least six years of over-40pc taxes and their rising further all the way to the forecast horizon are unlikely to be deliverable.
The current structure of taxes is also probably wrong, with far too little coming from basic rate income tax, relative to other taxes, for an economy aspiring to tax at such a high level overall.
Some of these tax rises will be more growth-damaging than others. And in due course people will work out ways to re-jig taxes, cutting some and raising others, to reduce that negative impact and raise the tax take overall. So, manifestly, some tax cuts are not impossible.
That still won’t be enough, though. The Tories won’t cut spending, and an incoming Labour government is even less likely to do so. The economy won’t be able to generate as much tax overall as is currently planned. And we can’t run deficits this high for long without concerns about government solvency arising.
Without faster growth, unless the UK political system eventually bites the bullet and cuts the NHS or we are forced, 1970s-style, to invite in the IMF to instruct us to cut the NHS, the only way out is going to be a materially higher inflation rate, year-after-year – perhaps closer to 5pc on average than 2pc.
Financial markets are already sensing this. So Hunt isn’t wholly wrong to say there is a connection between his fiscal plans and inflation, at least longer-term.
In the meantime, we must live with Tories who’ve chosen to spend wildly telling us that tax cuts are impossible and those who call for them are irresponsible. Well, sirs, we do not all share your assumptions.