Budget Outlook In terms of its economics, this was undoubtedly one of the most unconvincing and wrong- headed Budgets of the modern era. Once everyone sees through this lack of economic credibility, it may not look politically that clever either, despite the usual bewildering array of classically Brownite "populist" measures.
Even accepting the exceptionally poor hand the Chancellor has been dealt, he has utterly failed to explain how he's going to address Britain's worst-ever peacetime deficit. Don't get me wrong. I'm not criticising the immediate policy response, which seems broadly correct. He's not gone for broke by providing some humungus fresh fiscal stimulus – the Budget measures are worth just 0.5 per cent of GDP this year – and there are some welcome measures for business, such as increased capital allowances for industry and the exemption on foreign dividends, mixed in with all the hot air. The Chancellor is right to insist he cannot deflate his way out of recession, but what he has not credibly explained is how he's going to get himself out of the debtors jail once the recession is over.
In symbolic terms, this Budget marks the end of the New Labour project, for what is proposed is a return to the highest rates of tax on top earners in more than 20 years. One of New Labour's cornerstone policies has been swept away, with the top marginal rate rising to 64 per cent, taking account of national insurance contributions. This will make Britain one of the least competitive tax regimes in the G20 for high earners. The City may have become everyone's favourite bête noire, but it is not good policy to casually assign this once mighty source of tax revenue and wealth creation to the dustbin of history. It will take time, but eventually these higher rates will drive the top talent away. Buried in the Redbook footnotes is the revelation that the Government expects to raise a grand total of £7bn a year in extra revenues from the top 1 to 2 per cent of earners by 2012/2013, through a combination of the new 50 per cent higher rate of tax and the abolition of the higher-rate tax relief on pension contributions. To the extent that the Government plans to attack the burgeoning Budget deficit at all, one of the main devices is thus revealed as higher taxes on the better-off. Even accepting that progressive taxation of this sort is a legitimate political ambition, in practice it is highly unlikely to deliver as projected, for these estimates assume no change in behaviour.
In fact, many high earners, particularly those in the highly mobile financial services industry, will simply vote with their feet and move to another jurisdiction. Either that or they won't locate in Britain in the first place, will work less hard, retire early or find new ways of sheltering their money. What's the point of raising the marginal rate of taxation if it ends up yielding less taxation? What Labour is doing in pretending this will solve the problem is almost dishonest. By raising higher-rate taxes in this way, the Government is delivering a body blow to Britain's future competitiveness as a place to do business and finance. Labour seems to have reverted to type – whack up taxes on the well-off and carry on spending and borrowing until the markets rise up in revolt. That time may be quite soon. UK gilt futures plunged by more than a full percentage point as the Debt Management Office announced a record £220bn of gilts issuance for 2009/10. The yield on ten-year gilts surged 14 points.
This is just the start. Even on the Government's own heroic assumptions about a trampoline-like bounce in the economy the year after next, followed by a return to "high" trend growth, the Treasury is still going to have to borrow an astonishing £703bn over the next five years, equal to around a half of national income.
The return of balanced budgets is projected to be at least 10 years away, by which time national debt will have risen to close to 80 per cent of GDP.
It's obvious what needs to happen, but the Government cannot bring itself to admit that it has been spending way beyond the country's ability to pay. Rates of taxation are already at at a level which interfere with the economy's ability to grow. Any more and the law of diminishing returns begins to kick in.
Instead, the axe has to be taken to public spending, which has grown like Topsy over the past eight years.
The Government is indeed planning to do something on this front. From 2011/2012 onwards, it proposes to cut the real growth in public spending from 1.1 per cent a year to 0.7 per cent. Unfortunately this is nowhere near enough. What's more, some £9bn a year of these cuts is forecast to come from efficiency savings which the Government claims to have found on top of those already achieved from the Gershon review. This is "pie in the sky when you die" stuff and only further serves to undermine the credibility of the borrowing forecasts. The point is that even after the assumed resumption of strong growth, the use of every piece of sleight of hand in the book, and the performance of a couple of backward somersaults, borrowing remains stubbornly high into the foreseeable future.
At the very least, public spending has to be frozen in real terms – a policy option suggested by the Institute for Fiscal Studies – in order to provide a credible path back to balanced budgets. Yet such a draconian approach to the public sector seems to be politically impossible for the present Government.
What goes around comes around. The curiosity of yesterday's Budget is that it bears a remarkable resemblance to the famous John Smith "shadow budget" of 1992, when Labour similarly proposed a top rate of income tax of 50 per cent to pay for higher public spending.
These policies were widely thought to have lost Labour the subsequent election. Certainly they made the young Tony Blair determined to make the 40 per cent higher tax rate sacrosanct. Politically it may look clever to challenge David Cameron over how he's going to respond. Would he leave the new rate in place, or reverse it?
But in truth, he doesn't have to answer the question.
It was the present Government that got us into this mess. Now all the Tories have to do is stand back and let Labour dig themselves ever deeper into the mire. If there is one consolation in yesterday's Budget, it is that it is quite unlikely that much of it will ever get implemented. There is an air of unreality about a set of delayed action proposals from a Government which faces almost certain electoral defeat in a year's time.
The bottom line is that little of any practical consequence is being done to fix a catastrophic deterioration in the public finances. The Government's approach seems to amount to that of Mr Micawber: something will turn up. Never mind the electorate, the markets are most unlikely to give such careless disregard for the future the benefit of the doubt.
It's a terrible chalice that is being left to the next government.Reuse content