Reconstruction bill adds to cost of war

Nearly £3.6bn was earmarked for the Iraq conflict and its consequences at home and abroad, as the Chancellor unveiled what MPs described as a "war and peace" Budget.

The amount devoted to fighting the war remained at £3bn, but Gordon Brown announced an extra $100m (£64m) to help the reconstruction and development of Iraq and an extra £330m for counter-terrorism.

The war dominated the speech, with the Chancellor declaring that the extra provision for the armed forces, domestic security and international development was his "first Budget decision".

Mr Brown praised the "zeal, bravery and resilience" of British troops and went out of his way to praise the "strong leadership in a difficult time of our Prime Minister".

He said: "There are three long-term challenges to which the international community must rise and which will also require additional financial support. [They are] reconstruction in Iraq, a lasting Middle East peace settlement and a new and urgent effort, going beyond debt relief, to combat the injustice and instability caused by world poverty."

Mr Brown underlined the need to combine a war on terrorism with a war on global poverty, pointing out that Britain would table a new plan at the G7 meeting in Washington this Saturday. The plan will call for a $50bn international finance facility to fund primary education and health care, including Aids drugs.

He pointed out that it was half a century since a Budget had been presented while Britain was engaged in military conflict and referred specifically to the 1951 Budget of Hugh Gaitskell. "The then Chancellor told the House of Commons, that, heavy as the burdens may seem at times, they were small set against the cause, which is great, and the courage of our armed forces, which is even greater," he said.

Gaitskell's Budget introduced charges for National Health Service dentures, spectacles and prescriptions and increased defence spending to meet the cost of the Korean War. Three cabinet ministers resigned in protest and Labour was swept from power for more than a decade later that year.

Other Budgets delivered in wartime have been used as a golden opportunity to raid taxpayers' pockets. William Pitt the Younger , who was Prime Minister and Chancellor combined, introduced income tax to bankroll the war against Napoleon. During the Crimean War, income tax leapt to a rate of more than 60 per cent.

Not only were the social effects of the First World War horrific but they also represented an immense financial cost to the Exchequer.

In 1914, when David Lloyd George was Chancellor, the standard income tax rate was 6 per cent, producing £44m in revenue with a further £3m in "super-tax" on the rich.

By 1918, Andrew Bonar Law was in 11 Downing Street and the standard rate had risen to 30 per cent, raising £257m, with a further £36m in super-tax. In addition, firms that made "excessive profits" from the war effort faced a new levy.

The outbreak of the Second World War saw immediate action to raise extra revenue, with the Chancellor, Sir John Simon, putting up income tax so that the standard rate rose from 29 per cent in 1939 to 50 per cent in 1945.

The surtax increased from 41 per cent for incomes of more than £50,000 to 48 per cent for incomes of more than £20,000. The tax on company profits was also re-introduced. Ten million people paid £400m in tax when the war began; six years later, 14 million citizens surrendered almost £1.4bn.

The increasing numbers of taxpayers meant a new system of collection had to be devised. The result was the pay as you earn (PAYE) system introduced by Winston Churchill's Chancellor, Sir Kingsley Wood.

By contrast, the Falklands War, as a relatively short and straightforward campaign, barely made any difference to Geoffrey Howe's Budget of 1983. Its final cost was £1.8bn, substantially below the £2.5bn that had been set aside from the contingency reserves.

Case study

Naval officer

Lt Teilo Elliot Smith

Naval welfare officer

Home: Egham, Surrey.

Family: Single, no children.

Age: 24

Income: £31,000

Savings: None

Company benefits: Armed forces pension

Outgoings: Mortgage £400 a month.

Politics: Floating voter. Believes Labour is handling spending and finances well.

Hopes from Budget: Anxious that interest rates and taxation remain manageable.

Actual effect of budget: National insurance increase means he is £311 worse off this year.

Reaction: Sympathetic to the increases in national insurance. "The Government needs to improve public services and that requires more money. I'm looking for low interest rates and manageable tax, and that's what I've got."