Sunday, March 18, 2018
In spring a chancellor's thoughts turn to tax hikes
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.

One of the biggest challenges for people like me is writing about budgets. Though in recent years they have been held on Wednesdays at 12.30, just after prime minister’s question time, for a long time they were on Tuesday, with a 3.30 kick-off. The gap between a Tuesday budget and a Sunday economics column is a long one.

Now, sympathise with me if you will about the even longer gap between something that was not even a budget – Philip Hammond’s spring statement at 12.30 last Tuesday – and the time that you are reading this.

Fortunately, there is something to say, and it is what you might call a taxing question. How much will taxes need to go up to pay for the public services voters want, and provide the Conservatives with a better electoral platform? And which taxes might they be?

The scene was set, as so often on these occasions, by the Institute for Fiscal Studies. Paul Johnson, its director, provided a neat summary of the pressures on the public finances.

“The fact that even on current plans debt is not really due to fall is likely to make the chancellor especially cautious about opening the spending taps,” he noted. “Yet the pressures are undeniable. Many of the public services are struggling in a way that they were not two or three years ago. Safety in prisons is being compromised.

“The NHS is visibly failing to cope as well as it was. Local government, having done a remarkable job of coping with cuts, is showing the strain. The cap on public sector pay may have been lifted, but we don’t know where the money to pay for any increases above 1% will come from.“ A spending review is planned for next year.

But the tax side, as Johnson also noted, is in a bit of a mess and is vulnerable. Hammond hoped last year to tackle the tax gap between the self-employed and the employed by raising national insurance but had to admit defeat and, according to the Office for Budget Responsibility (OBR) the cost of these changing patterns of work will rise from £10bn to £15bn over the next five years.

Old reliables in the tax system like fuel duty are being allowed to wither on the vine. Not only has raising fuel duty apparently become impossible for any chancellor – for British politicians upsetting the motoring lobby is a bit like taking on the National Rifle Association in America – but the switch to alternative fuels will in any case erode this part of the tax base.

The biggest problem of all lies with income tax. Raising the personal allowance, the coalition policy enthusiastically maintained by this Tory government, takes increasing numbers of people out of tax every year. The result of this is a system even more skewed towards higher earners. This year, according to official figures, the top 1% of earners will account for 27.7% of income tax revenues, with the top 5% responsible for 48.1%.

Lose some of these high earners, particularly from the City, to Frankfurt, Paris and Dublin and we will notice it. Combine Brexit with a Labour government led by Jeremy Corbyn and that trickle of lost revenue would turn into a flood.

There are, then, some serious issues about future tax revenues, even though lately they have held up well. There is also, as so often, a need for higher taxes to balance the books; £18bn of them by the mid-2020s if the government is to meet its target of eliminating the budget deficit (£45bn this year) by then.

That is why the consultations launched on Tuesday were mainly about raising revenue. One idea, significantly lowering the turnover threshold at which self-employed people become eligible for VAT from its present £85,000, in line with suggestions from the Office of Tax Simplification, which could raise an extra £2bn a year, has so many political pratfalls attached to it that it will probably never happen.

Another, which would be popular, is taxing the tech giants such as Facebook and Google on a revenue rather than a profits basis. This, together with taxing the users of platforms such as Airbnb and eBay could bring more revenue, though it is unlikely to bring in much more.

The situation we are left with after the chancellor’s spring statement is one in which either the target of eventually balancing the budget will have to be abandoned, or taxes will have to go up. Tie it to the government’s determination to address an NHS funding problem that it fears will be politically toxic and higher taxes would appear to be in prospect.

An idea that has been knocking around the cabinet is that of putting up national insurance (NI) by 1% and earmarking the funds for the NHS. It would not quite be an earmarked or hypothecated tax but would lean very much in that direction. Polls suggest people are prepared to pay more tax for a better funded NHS, though they also show that they would prefer somebody else, preferably the rich, to do so.

A 1% increase in employee NI would raise £4.9bn a year, just under £100m a week extra for the NHS. Increasing both employee and employer NI contributions would raise £10bn, and would exactly repeat Gordon Brown’s trick in 2002. He, much to the displeasure of business, raised employer and employee contributions to put more money into the NHS. When it comes to tax there are few new policies, merely re-runs of old ones.

The lesson of that hike should give good reason to pause before repeating it. What started life as a tax hike “for the NHS” quickly became absorbed into general revenues, and general spending. All that those who paid it knew was that they were paying more tax. It did not, either, prevent Labour bending and eventually breaking its own fiscal rules.

There is another reason to pause. As the IFS also pointed out, relative to gross domestic product, tax revenues have not been sustained at present levels since the early 1950s, when the economy was being demobilised from wartime levels of tax and spending.

History tells us that we may be close to the natural limits of what can be extracted from the economy in terms of tax. Austerity fatigue, meanwhile, has kicked in at a time when public spending is the equivalent of nearly 39% of GDP, still higher than it was in the years leading up to the financial crisis.

A chancellor without any easy options for raising tax, and who looks close to the limit when it comes to spending restraint, is a chancellor who may have no choice but to keep on borrowing. That fiscal light at the end of the tunnel Hammond has spoken of looks very faint indeed.