For many of those who are paid to write stuff about the budget and have word counts to meet, I guess the answer is obvious. Nevertheless I have found the general lament that a relatively popular budget wasn’t more exciting rather amusing, albeit painfully amusing as it has led to an unusually large amount of nonsense being published. In the US a fascist regime is trying desperately to find ways to neutralise a popular vote against it. In France political stalemate and popular protest may lead to a right wing populist president being elected, and right wing populists are not far behind in Germany. By comparison UK politics looks rather dull. Thank heavens for that!
The most common complaint in the pieces I read was that the Budget hadn’t done enough to raise economic growth. What generally followed was the author’s own particular idea of what measures would increase (or in some cases ‘unleash’!) growth. The reality is that Chancellors can at best only have a marginal positive impact on medium or long term growth by changing taxes in the Budget, and it is not easy to design measures that actually work. (See Helen Miller on the new ‘Founders Relief’ here for example.) Those who believe otherwise follow in the tradition of Liz Truss. [1]
What these complaints often failed to recognise is that the budget did include a major shift in UK policy that should help raise UK growth, by giving much more resources and control to regional institutions and political leaders. Three key features of the UK compared to neighbouring counties are the high level of growth and productivity inequality between major cities in the UK, the poor level of infrastructure within cities outside London, and the UK’s highly centralised control of money for infrastructure projects. Changing the latter may be the key to correcting the other two, which could not only reduce regional inequality but also increase overall UK growth.
The other important measure that the Prime Minister has taken that has the potential to have a significant positive impact on UK growth is to start the process of reversing Brexit. There is no doubt that Brexit has significantly reduced UK growth and productivity over the last decade, for reasons that were carefully spelt out by academic and other economists before the 2016 referendum. Most are reversable. What is noteworthy is that while the Prime Minister understands this, the Chancellor seems not to. Burnham may yet come to regret not appointing his most able and qualified supporter to this position earlier this year.
Some of these complaints about growth may be a response to the widely noted forecasts for real disposable income per head highlighted in the OBR’s Budget forecast. Here are two key charts.
By the end of 2031 real household disposable income per person is expected to be not much more than two percent above its level before the pandemic. In the past that kind of growth rate was typical of years rather than decades.
A key reason for this are two energy and food price shocks. The first thanks to Putin’s invasion of Ukraine, and the second happening right now as a result of Trump’s attacks on Iran. Neither can be blamed on this government, although the somewhat blind support of current and previous Conservative leaders for Donald Trump should not go unnoted. The Budget did contain limited help for poorer households, coupled with increased taxes on banks. Both are justified, and should havebeen greater in scale. Banks in particular have benefited from the combination of high short term interest rates and past Quantitative Easing. It is a shame that the first energy price shock did not lead to a more efficient means of identifying those most vulnerable to higher energy prices, but the Chancellor should be commended for resisting the temptation for a much more generous Truss-style handout that would have spread help to many that did not need it.
One point that few noted, which was emphasised in last week’s post, is that slower growth in real personal incomes is a key part of the government’s strategy to bring down its deficit to sustainable levels. As the chart above also makes clear, one reason for slow income growth is increases in taxes. The government is using higher taxes rather than cuts to spending as its way of reducing the deficit, and as pretty much all taxes eventually fall on consumers (including rich consumers), then this strategy also reduces the growth in personal incomes.
Of course this is a risky political strategy, but it is a strategy that goes largely unremarked in public discourse. Rather than commending the current and previous Chancellor for putting fiscal sustainability above party political advantage, most commentators write as if the UK was lagging rather than leading efforts to reduce government deficits. Given how much the media go on about fiscal responsibility, this disconnect looks very odd. It’s as if reporting is based on media vibes rather than actual evidence.
Tax increases could be avoided yet the deficit still reduced if spending was cut. This is of course the proposal from almost everyone on the political right. It is as realistic as Jeremy Hunt’s cuts to employees’ national insurance contributions in the dying days of the Conservative government. Politicians on the right continue to pretend that pain-free cuts to public services can be made, whereas all the evidence suggests otherwise.
As a recent report by the Institute for Government on public services noted, the Starmer administration created “improvements in its selected areas. But, given limited funding envelopes, that has often come at the expense of performance elsewhere in those services.” For example, the “NHS’s focus on elective care often led to the system deprioritising the government’s other supposed priorities, such as a shift to community care or a greater focus on prevention.” The only way to prevent a growing elderly population requiring a growing share of GDP going to the NHS is through more investment in prevention. Overall the report concludes that “Starmer’s government did not put public services on a trajectory that would return performance to pre-pandemic levels.”
In these circumstances, meeting fiscal rules by cutting spending rather than raising taxes is just not a realistic option. By pretending otherwise the Conservative party continues to refuse to learn from its past mistakes and defeats. This is exemplified by its devotion to Brexit, in defiance of the majority of the electorate that recognise the economic costs of leaving the EU. It remains a party trapped by ideology and immune to evidence it doesn't like.
Given the evidence on the state of public services outlined above, and the unrealistic nature of the government’s own spending plans that I highlighted last week, I have more sympathy with those on the left who would have liked a budget that raised taxes to enable higher public spending. I argued strongly for larger increases in taxes in Labour’s first budget two years ago. Of course greater tax increases would reduce disposable incomes still further, which is why I argued that this was something Labour needed to do as far away from the next election as possible. Doing this now seems unrealistic from a political point of view.
I have less sympathy for those on the left who argue for greater day to day public spending [2] financed by higher borrowing. As demand in the economy is relatively strong and unemployment historically low, interest rates set by the Bank of England are high and are expected to rise in the medium term. In this situation the government’s finances are a reasonable reflection of pressure on economic resources. Additional public spending without a corresponding increase in taxes would intensify inflationary pressure. Additional public spending financed by higher taxes on the wealthy could do the same, because a good deal of these higher taxes would be paid for out of savings as the marginal propensity to consume of the wealthy is relatively low.
[1] I have a similar problem with those that demand the Chancellor or Prime Minister tell us their ‘theory’ of economic growth. The economic theory and evidence we have is that economic growth is influenced by a multitude of factors, often interacting with one another in a way that is highly dependent on institutional structures and initial conditions. Politicians that promote a theory of growth are generally putting forward an ideology that suits their prejudices. The most prominent of these is the neoliberal idea that growth is best achieved by the government getting out of the way and taxing ‘wealth creators’ as little as possible. At best that ‘theory of growth’ has led to decades where growth has slowed, and at worst to Truss like episodes.
[2] In contrast I think there is a strong case for higher public investment. It is disappointing that public investment shows a small decline as a share of GDP over the OBR’s forecast period. Public investment is outside the scope of the government’s main fiscal rule, but is constrained by its secondary fiscal rule. As I have argued persistently, this secondary fiscal rule is economic nonsense and should be abolished.
