Lib Dems recoil at Osborne's 'regressive' Budget

VAT up, spending cut, benefits slashed in Osborne’s first Budget

George Osborne unveiled the toughest Budget in a generation, but claimed it was also "fair" despite a controversial rise in VAT, a big squeeze on benefit payments and a 25 per cent cut in most areas of public spending.

Despite his assertions, some Liberal Democrats questioned the Chancellor's claim to have delivered a "progressive Budget", warning that the hike in VAT from 17.5 to 20 per cent in January and massive spending cuts would hit the poorest hardest.

Mr Osborne believes privately that his first Budget was the "easy bit" and that the real crunch will come over his demand for £32bn of new spending cuts, to be finalised by October, with cabinet ministers and their officials trying to defend their turf.

The health and overseas aid budgets will avoid the axe, while the Chancellor hinted that education and defence would escape relatively lightly. But that means other departments face cuts of more than 25 per cent. Yesterday's announcement includes an £11bn reduction in welfare spending, including a squeeze on tax credits for families on middle incomes; a three-year freeze in child benefit; and the stipulation that all claimants of disability living allowance undergo medical assessments.

Housing benefit will be cut and most benefits will be raised in line with the consumer prices index rather than the retail prices index. This represents an effective cut in the annual increase of about 0.75 of a percentage point, which will eventually save £6bn a year. Public sector workers earning more than £21,000 a year will have their pay frozen for two years.

The Chancellor sugared the pill by announcing that the income tax threshold would rise from £6,475 to £7,475 next April, that the basic state pension would be re-linked to earnings, and that £2bn extra in tax credits would be extended to the poorest families so that child poverty would not increase. Although all income groups will be worse off, Mr Osborne insisted that the better-off would take the biggest hit, in a deliberate departure from the austerity measures of the Thatcher era.

The Chancellor also unveiled a £2bn bank tax, while bowing to pressure from Tory MPs by limiting the rise in capital gains tax from 18 to 28 per cent rather than the 40 per cent sought by the Liberal Democrats.

Mr Osborne told MPs that his "tough but fair" measures were unavoidable after the coalition Government inherited a £155bn public deficit from Labour. He also pledged to balance the nation's books by 2016, and brushed aside claims by Labour and warnings by some economists that the clampdown could turn Britain's fragile recovery into a double-dip recession.

Liam Byrne, Labour's shadow Chief Treasury Secretary, said: "At a time when growth looks weak in Europe, George Osborne is taking a big gamble on recovery." The only prize would be a £3bn saving on debt repayments, he added, warning that unemployment would be 100,000 higher and claiming that the Liberal Democrats had got a "raw deal" from the Tories.

The Liberal Democrat leader Nick Clegg began the tricky task of selling the Budget to his party's MPs last night. He told them: "These are not decisions that any government wants to take but we have no choice ... to clear up the financial mess that Labour left us. Today's Budget takes these difficult decisions in an honest and fair way and with the clear stamp of Liberal Democrat values running through it.

"In the past, efforts to tackle a big deficit have always hit the poorest the most. The coalition has ensured that, for the first time, this will not happen. The richest will pay the most, while pensioners and children will be protected. Look through the Budget and you will see key policies we campaigned for being put into effect." Simon Hughes, the party's deputy leader, admitted the Budget package "required compromise" but insisted: "Britain will be a fairer place ... We will make sure the spending reductions reflect Liberal Democrat priorities."

But Bob Russell, the Liberal Democrat MP for Colchester, suggested he would not vote for the Budget in the Commons because of the VAT rise – a move he had campaigned against in last month's election. "I am not at all happy," he said, warning that the rise would hit the low paid the hardest.

Sir Menzies Campbell, the party's former leader, said: "Liberal Democrats, and I don't mind admitting this, are a bit nervous about a rise in VAT, because it's a regressive tax ... that's why the increase in the level at which people begin to pay tax is so important." Benjamin Ramm, editor of The Liberal magazine, added: "This VAT rise is a tax on the poor to absolve the sins of the rich."

Most Tory MPs welcomed the Budget but some were worried about a backlash over VAT. Tim Montgomerie, editor of the ConservativeHome website, said: "VAT is a regressive way of getting back towards balance. The Chancellor has gone easy on large parts of the public sector [and has been] too harsh on other parts. Why is the NHS budget – which has grown fastest – not part of the restraint?"

Dave Prentis, general secretary of Unison, accused the Government of "declaring war" on public services, adding: "This is the most draconian Budget in decades." Derek Simpson, Unite's joint general secretary, said: "Today the mask slipped to reveal this Government for what it is – Tory slashers of services and friends of the rich and powerful."

The Budget at a glance

* VAT to rise to 20 per cent from 4 January, bringing in £13bn extra revenue.

* Council tax to be frozen for a year.

* Personal tax allowance raised to £7,475 from April 2011. Higher rate income tax threshold frozen. Higher rate taxpayers to pay 28 per cent capital gains tax from midnight.

* Tax credit payments to families earning more than £40,000 to be cut.

* Child benefit to be frozen for three years.

* Two-year pay freeze for public sector workers, but £250 pay rise for those earning under £21,000. Accelerating the rise in the state pension age to 66.

* Government departmental spending to be cut by 25 per cent apart from health, defence and overseas aid.

* No new duty increase on tobacco, alcohol or fuel and cider duty rise reversed.

* The Government to dispose of its shareholding in air traffic body Nats, the student loan book will be sold and the future of the Tote will be resolved.

* Bank levy introduced from January to generate £2bn a year. France and Germany agree similar action.

* Maximum housing benefit limits to be reduced to £400 a week for a house. Introduction of a new medical assessment for disability living allowance claimants.

* No further reductions in capital spending over and above measures announced in the last Budget.

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