Tax cuts are all the Tories have to work on

Drowning in public disfavour and nervous about their seats in the next election, Tory MPs have clutched at the prospect of tax cuts with all the desperate zeal of unreformed junkies. Yesterday the Institute of Directors jumped on the same bandwagon, calling for cuts of up to £10bn over three years.

John Major was quick to dissociate himself in his interview on Panorama from the rolling three-year programme suggested by his party chairman, Jeremy Hanley, but he hinted broadly that tax cuts were on the way, as indeed they are. But are the Conservatives clutching at a lifeline or a straw?

The political temptation is set out in the projections for the public sector borrowing requirement made at the time of the Budget. Forecast at £21.5bn or 3 per cent of gross domestic product for the coming tax year, it is forecast to drop to £5bn, or under 1 per cent of GDP, in the tax year 1997-98.

With one penny off the standard rate of income tax estimated to cost about £2bn, and two Budgets to come, there would appear to be sufficient scope for substantial reductions simply by aiming for a less ambitious reduction in the budget deficit.

But PSBR projections are not renowned for their reliability. Like the current account of the balance of payments, the PSBR is the difference between two big totals, and is therefore particularly sensitive to forecasting errors on both sides of the ledger. Past experience, moreover, tells us that the Treasury stands as good a chance of fulfilling its projections for government expenditure as Ken Clarke has of keeping his mouth shut for more than a week. Spending is set to grow in real terms over the next three years, according to the Red Book, at an annual rate of between 0.5 and 0.75 per cent.

Sounds impressive, doesn't it? Yet, as the Institute for Fiscal Studies calculated last year, the average annual real growth rate in public spending over the past 15 years has actually been 1.8 per cent. The Thatcher revolution was not in practice the slaying of public spending it was billed to be. Mr Major is paying a high price now for the spending increases he let through in profligate fashion in the years leading up to the 1992 election. They have not yet been reversed.

If the fall in unemployment is sustained, as looks likely, this will certainly help keep spending down. But the build-up of tensions over inadequate public expenditure is already apparent. Funding of schools, for example, is bound to be increased. The further you look out, the more unrealistic the forecasts appear. For example, in 1996-97, expenditure on the health service is forecast to increase by under 1 per cent in cash terms after an increase of 3.8 per cent for 1995-96. Just try selling that to the midwives and the nurses.

But even if public spending does grow faster than expected, that leaves open the possibility that taxation receipts might also recover more sharply still - over and above the effect of the tax increases of the last three Budgets - thanks to continuing economic recovery and a bounce-back in corporate taxation. The Chancellor could then hand back the bounty and take the credit.

The trouble is that we have been here before with the tax cuts made on the back of the economic boom of the late 1980s. Tax cuts made when the economy is growing faster than trend turn to dust. It will require the presentational skills of the Duke of York to explain to a bewildered electorate how fiscal famine can give way so quickly to fiscal feast.

What is more, tax cuts that are seen as permanent have a very different effect on consumer confidence and spending from tax cuts believed to be temporary. Given the rollercoaster of the past few years, the Tories would be unwise this time to factor in too much of a boost to the infamous "feelgood" factor.

Yet we can be sure that talk of tax cuts will not go away. Even if Ken Clarke were to rule them out, which he won't, nobody will believe him. Poor politics or not, they still look the nearest thing to a racing certainty there is in politics. The reason why Tory MPs will keep harping on about them is that their only alternative source of hope is that something will turn up. Nobody after all gave Mrs Thatcher a prayer in 1982 until the Falklands, just as nobody foresaw the power of Mr Major's soapbox in 1992. But for the moment tax cuts are all there is to work on.