As published on: ft.com, Tuesday 21 November, 2023.
Having successfully stabilised the economy following a close call with a severe financial and economic crisis a year ago, UK chancellor Jeremy Hunt faces intense pressure from within his party to put tax cuts at the centre of his Autumn Statement this week.
The political temptation is strong, especially with a looming general election and the Conservatives badly trailing behind the Labour party in polls. However, shaping the budget around tax cuts would not only yield minimal short-term gains but also impede a necessary and already-delayed journey towards higher productivity and inclusive and more sustainable long-term growth.
The arguments for business and household tax cuts have been well rehearsed for decades, albeit with inconsistent supporting evidence. Such cuts are said to stimulate both short and longer-term growth through increased consumer spending and corporate investment; incentivise more efficient resource allocations throughout the economy; and attract a higher level of productive foreign investment that also enhances competitiveness and efficiency.
There is also a political angle, especially as the Conservatives want to regain their reputation as the “low-tax party” with UK tax revenues as a percentage of national income rising to their highest levels in about seven decades. The argument appears stronger in a world where voters grappling with a cost of living crisis are likely to support a party that leaves more money in their pockets. Internationally, Brexit also necessitates stronger UK alignment with foreign investors at a time when the partial dismantling of trade links with the EU is yet to be offset in a meaningful manner.
However, tax cuts are not without risk, as Liz Truss learned a year ago. The then prime minister’s announcement of large unfunded tax cuts totally overshadowed the other elements in her pro-growth “mini-budget” and destabilised the country’s pension and mortgage systems.
Hunt, who took office shortly before Truss’s exit, has maintained a cautious tone. Even last month, at his party’s recent conference in Manchester, he said: “Obviously, in the run-up to an election, I would love to discuss a tax cut that ordinary people feel . . . At the moment, we’re not in a position to have that discussion . . . because any tax cut would be inflationary.”
Hunt’s position appears to have shifted because of three recent developments. First, October’s inflation figure came in lower than expected, also aligning with the prime minister’s goal of halving inflation this year. Second, both current and forward-looking UK interest rates have notably decreased in recent months, resulting in lower mortgage rates and increased availability of mortgage products. Third, on the political front, the Conservatives are trying to regain stability after a series of internal issues.
Despite the apparent appeal of focusing on tax cuts, I believe it may not be the best course of action for the UK in both the short and longer term. Three key issues deserve consideration.
First, given the state of the budget, including significantly higher interest payments than last year, the limited headroom for prudent tax cuts is unlikely to spur much sustainable consumer spending and business investment. It may not even result in much of a short sprint, let alone a growth marathon.
Second, on the spending side, long-term reform in public services, including the NHS, remains an issue for voters. Locking in tax cuts could further undermine the limited flexibility to provide immediate relief for these issues.
Third, and crucially for the long term, the UK lags behind the US in encouraging essential investments needed for durable productivity and growth gains. Insufficient progress has been made in fostering greater innovation and adoption of technology led by generative AI, life sciences and the green energy transition.
Rather than adhering to a traditional policy mindset that promises limited economic gains, the chancellor may be well advised to use this Autumn Statement as a foundation for a crucial shift towards these enablers of tomorrow’s prosperity. Focusing on generating high and inclusive long-term growth that respects the wellbeing of our planet is paramount and long overdue. And the longer Britain delays anchoring and accelerating such a transition, the greater the challenges to sustaining gains in standards of living, mitigating harmful inflation and reducing the inequalities of income wealth and opportunity.