Sunday, November 19, 2017
Hammond needs a few rabbits if he is to hang on to his hat
Posted by David Smith at 09:00 AM
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My regular column is available to subscribers on www.thesundaytimes.co.uk This is an excerpt.

The traditional task of a chancellor at budget time is to take on the role of conjuror by pulling rabbits out of what appears to be an empty hat. Philip Hammond’s task on Wednesday is slightly different; the hat really is empty yet for his survival and that of the government he has to come up with some significant rabbits.

Budgets, it should be said, rarely change very much and, when they do so, it is often for the worst. The City is expecting a dour budget, given the very limited room for manoeuvre. But unless a few bouncing bunnies appear at Wednesday lunchtime, the chancellor’s first unified autumn budget could also be his last. I hope not.

One of those rabbits, almost certainly, will be on housing, of which more in a moment. Theresa May does not visit new housing developments for nothing, as she did last week, though she avoided the hi-vis jacket she once mocked George Osborne for turning into his uniform of choice.

Some of the budget, almost certainly, will involve creative accounting. The hat is empty , or nearly empty, because, as discussed here two weeks ago, the Office for Budget Responsibility (OBR) will downgrade its productivity assumption, removing most of the wiggle room the chancellor had allowed himself in meeting his fiscal rules.

The announcement on Wednesday that productivity, measured by output per hour, jumped by 0.9% in the third quarter, after falling in the first half of the year, will not stay the OBR’s hand. It will see this rise, brought about mainly by a fall in hours worked, as firmly in the ‘one swallow doesn’t make a summer’ category. The chancellor will want to address productivity weakness in his budget.

It isn't all bad news. The OBR, in forewarning of its productivity downgrade, pointed out that this will be partly offset by higher employment. This year's borrowing undershoot will carry over, in part, to future years.

The decision by the Office for National Statistics to reclassify housing associations back to the private sector is technical,and has no impact on the underlying state of the public finances. But it will reduce headline borrowing by perhaps £5bn a year relative to what it would otherwise be, and lower debt, and chancellors do not look this kind of gift horse in the mouth.

The pressure for higher spending, on the National Health Service, education, fixing universal credit and any number of other things, is intense,

The Treasury has been looking at ideas that will enable the chancellor to meet his fiscal target of a budget deficit of less than 2% of gross domestic product and falling debt (relative to GDP) by the end of the parliament, while giving him the leeway to spend more in the meantime.

One, highlighted by the Resolution Foundation think tank, is that once the manifesto policy is achieved of raising the income tax personal allowance to £12,500 and the higher rate threshold to £50,000, it could then be frozen, which raises revenue. Resolution and I think a better idea would be to abandon the target altogether but that looks unlikely.

There will be other revenue raisers, though after his failed attempt to increase Class 4 National Insurance contributions for the self-employed in the March budget, Hammond will tread carefully.

The government’s Office for Tax Simplification has suggested bringing down the VAT threshold from its current £85,000 to £25,000, because the current threshold creates an artificial limit on business growth. To do so would bring in an extra £2bn a year but lead to a bigger backlash than the one over Class 4 NI, so it likely to remain in the chancellor’s “pending” file. So, despite the usual pre-budget flurry of concern, is pension tax relief.

A safe bet is that the Treasury will pencil in further revenue gains from measures to clamp down on tax avoidance. Though the recent “paradise papers” were not as juicy as hoped, and were oversold by the BBC, extra revenues from reducing tax avoidance tick the political and economic boxes. As with Labour’s tax policies, revenue-raisers that impact on others are always popular with voters.

Roger Farmer, research director at the National Institute of Economic and Social Research, has an interesting suggestion for replacing capital gains tax, inheritance tax and dividend taxation with a 1.2% wealth tax on net wealth above £700,000. It would leave £2bn to spare for other purposes, while a 2% wealth tax would give Hammond more than £30bn to play with. I doubt, though, that a wealth tax is compatible with a Tory government. Maybe its time will come later.

What about housing? With the prime minister reiterating her party conference pledge that she would take “personal charge” to ensure more housebuilding and Sajid Javid, the communities’ secretary, pledging that the budget will show “just how seriously we are willing to fight to get Britain building”, something quite big is afoot. Javid chose to highlight the Office for National Statistics’ decision to remove more than £60bn of housing association debt from the government’s balance sheet, with the clear implication that most of this could be used for the £50bn boost to social housebuilding he is pushing for.

The Treasury knows that the reclassification makes no difference to the underlying state of the public finances, merely reversing a relatively recent ONS decision. It will not regard it as a windfall to be spent, though the chancellor is fully aware of the need to go further than the government’s October announcements of an additional £2bn for council housebuilding and a £10bn extension of the Help to Buy scheme (which has been a boon for the housebuilders).

What would a meaningful set of housing policies look like? It would involve more housebuilding, particularly social housing, as a route towards reversing the decline in home ownership, particularly among the young. These days the transition from social renting to owner-occupation is achieved less through right to buy, as in the 1980s, but by shared ownership and rent to buy schemes.

You do not fix the housing market with measures that just increase demand, such as Help to Buy, but neither do you do so purely by increasing housebuilding. The problems in what the government describes as a “broken” housing market go deeper, and extend to low transactions and “bed blocker” older people staying in family homes that are too big for them. Stamp duty is providing a decent source of income for the Treasury, particularly since the imposition of a 3% premium for landlords and second-home buyers. But it is killing transactions.

Though Hammond has publicly poured cold water on the idea of a £50bn national housing fund, as proposed by Javid, which drew on ideas proposed by the Respublica think tank, there will have to be more money for housing. A genuine shake-up of planning, including the green belt, also needs to be part of the solution. The prime minister celebrated the fact that 217,000 new homes were built in England in 2016-17, the highest since 2007-8. But that is still short of the 250,000 long considered necessary and well below Javid’s ambition of 300,000 a year. As long as planning seriously constrains land supply, a large part of the effect of pouring more money in will be eaten up by higher prices.

For housing, and for infrastructure, the government also needs to think about funding differently. A useful report from the Institute for Government on Friday. Public versus private: how to pick the best infrastructure financing option, pointed out that governments remain biased towards using private finance to deliver public projects to keep it off the government’s balance sheet even when it is not good value for money,

The government, it says, should set a target of borrowing to spend 1% of GDP a year on infrastructure, roughly £20bn, rather than going through the hoops to keep it off the balance sheet. It is a good idea, though that is the kind of thing you start doing when, to coin a phrase, the sun is shining. You would not want to start from here. That applies to a lot of the challenges faced by the chancellor this week.