The government has effected a sea change in its economic and fiscal policy that would have been unimaginable in the wake of the 2019 general election. The changes will impact financial planning, the future of the UK investment scene and areas beyond.
The pandemic is the main trigger for these policy upheavals but it has accelerated trends that were already there. Quite simply, the government has become even more important and taxes will need to rise to pay for its extended role.
This isn’t happening just in the UK, either. Worldwide, governments are expected to solve problems that were previously left to markets or were of lower priority. States have picked up the tab for greater medical spending and welfare support on a huge and unprecedented scale.
China’s industrial policy has driven western governments to recognise that they need similar strategies, inevitably involving much more intervention. The mixed economy is back.
The same goes for climate change, with a sudden wider acceptance of the need for a strategy. And all this has become possible, or at least easier (apparently), through the availability of cheap money; rock-bottom interest rates.
In the UK, the government has decided it needs to spend what it has to with Keynesian policies on a wartime scale, supporting people, protecting them against unemployment and propping up businesses — with an estimated cost of more than £400bn.
Prompted by the need to convey messages of stability and responsibility to the bond markets, chancellor Rishi Sunak has set in train some huge tax rises over the next few years. But, in the light of his optimistic assumptions and remaining uncertainties about both the pandemic and therefore the economy, the path looks rocky.
Sunak hopes to balance the government’s books in 2025/26, mainly by raising corporation tax to 25 per cent and freezing the income tax personal allowance and higher-rate threshold. This reverses years of Conservative strategies and will mean lots of people eventually paying much more tax. But he may have to go a lot further if balancing the books really matters.
The government will be supporting the economy and people until the autumn — extending furlough and self-employed support, as well as the extra £20 weekly Universal Credit payment, to 30 September. The cost of extending UC even further would be enormous, but might Sunak relent under great pressure?
Industrial strategy
The industrial strategy is squarely aimed at encouraging investment to get the economy going. The headline initiative is the corporation tax ‘super-deduction’ of 130 per cent for companies’ investment in qualifying plant and machinery. There are other capital allowance provisions and a range of initiatives like freeports, industrial and regional grants, and even a UK infrastructure bank.
But whether these initiatives will generate the much-needed burst of growth to produce the projected tax revenues must be open to doubt. The UK has settled into being a low-investment economy for at least the past decade and the pandemic has eroded confidence.
The other side of the equation is the aforementioned tax rises. As well as freezing the personal allowance, and higher-rate and National Insurance Contribution thresholds, which will bring in an estimated £8.2bn for 2025/26, a raft of other thresholds and allowances has been paused, including the pensions lifetime allowance and the Isa annual limits.
The big earner is expected to be the corporation tax increase for accounting periods ending in 2023/24, with the tax take thought to reach £17.2bn for 2025/26. Whether this will yield what the Treasury expects depends on whether the economy picks up in the wake of Covid and helped by the incentives.
And will the government manage to keep a lid on its spending? A £4bn annual spending cut is built in
to projections. I think it seems optimistic. It will be hard to resist spending more on the NHS, schools and defence.
Interest is the largest item of expenditure and that’s mostly outside the chancellor’s control. He will be tempted to borrow and borrow, rather than hiking still more taxes. The trouble is that increased economic activity and therefore inflation are already pushing up interest rates. Just a 1 per cent rise in gilt yields adds £10bn a year to the interest bill, according to one projection. Rocky times ahead — politically as well as economically.
Danby Bloch is chairman of Helm Godfrey and head of editorial strategy at Platforum
Who in their right mind owns Gilts? Right now the answer is mostly the Bank of England (courtesy of the Quantitative Easing programme of buying up Gilts) and a bunch of financial institutions and pension funds who are forced by the regulators to own them to fulfil ‘asset/liability’ matching rules. This means that a lot of interest is paid by the Bank of England to itself – a concept which I am sure has long term consequences – probably bad. And that phrase ‘balance the books’, which sounds good but actually means trying not to borrow more money each year, at some stage in the distant future. Lord, make me virtuous – but not yet (Saint Augustine – the Algerian one – 1600 years ago). Our future seems to be in the hands of debt junkies. What happened to conservatism and the ‘small’ state. Ditched to deal with global warming and China? More likely that we now have an electorate which has been trained to vote for whoever seems likely to spend most money on them. Bribed with our own money. The chickens will eventually come home to roost.