Sunday, November 12, 2023
Hunt gets a tax boost, but faces a spending dilemma
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

Things have returned to some kind of normality after the pandemic, during which big fiscal announcements came thick and fast, sometimes involving tens of billions of extra government spending. Now we are back to two a year, and the second is fast approaching, Jeremy Hunt’s autumn statement on November 22.

I have chosen this weekend to do a curtain-raiser, not least because the Sunday before the actual event will be thick with the detail of the chancellor’s forthcoming announcements, to the point where there will be few if any surprises to be revealed on the day. I am old enough to remember when such details were closely guarded secrets and there were kudos to be won for extracting them from the Treasury.

The nearest I came to a genuine scoop recently was just over a year ago when, a few days before it happened, I heard the full details of Kwasi Kwarteng’s September 23 “mini” budget, the one that blew up the markets, including most notably the short-lived abolition of the 45 per cent very top or “additional” rate of income tax. Unfortunately, Sunday had already past, though it appears that I got to know about it a few days before the Bank of England did.

The backdrop to this autumn statement, in 10 days’ time is that inflation is on the cusp of a significant fall, as figures this Wednesday should show, while growth has stalled. But Hunt does not want to take the expected further fall in inflation for granted, and he certainly does not want to risk a repeat of last year’s disaster, which is why he has ruled out tax cuts for now, if not for next year.

The pressure on him to cut taxes now from Tory MPs who appear to have short memories has intensified following last week’s lacklustre set of King’s Speech announcements, though Rishi Sunak’s legislation to phase out cigarette smoking by ensuring that nobody born after the start of 2009 will ever be able to legally purchase them will have a longer-lasting impact than most things governments do. Whether the chancellor can hold out against the pressure will be a test of his resolve.

The narrative leading up to this year’s statement, from the Resolution Foundation, Institute for Fiscal Studies and others, is that while most of us have been reeling from the impact of high inflation, the government has been benefiting from it.

There are two ways of describing gross domestic product (GDP). The first, which forms the basis of announcements on how well or badly we are doing, is in real terms, and on this the performance over the past 18 months or so has been disappointing, close to stagnation. But GDP in so-called nominal or money terms has been rising strongly because it includes the impact of inflation. And nominal GDP is what matters in the short-term for the public finances.

Higher inflation and faster wage growth – even if real wages are falling – boost tax revenues, and this is what has been happening. So, in the first six months of the current fiscal year government borrowing, while still more than £80 billion, came in almost £20 billion lower than the official forecaster, the Office for Budget Responsibility (OBR) expected. One of the reasons for this is the big stealth tax increase from freezing income tax and national insurance allowances and thresholds at a time of high inflation.

Thus, most of the undershoot, £15 billion, was due to tax receipts coming in more strongly than expected, according to the Resolution Foundation. It expects stronger receipts to be a feature of future years, not because inflation will stay as high as it has been but because it will take time to fall back, leaving the economy larger in cash terms than previously expected. Taken on its own, this inflation-linked boost to tax revenues would leave the public finances in a much healthier state.

Unfortunately, the boost to tax receipts cannot be taken on its own. Higher inflation and the rise in government bond yields – though they have fallen back from their highs – boosts the government’s debt interest bill. In March, the OBR predicted that the debt interest bill would average nearly £90 billion a year over five years. Its new projections are likely to be higher than that and Hunt and his Treasury officials know that there is not a lot that they can do about that.

What the chancellor does think, however, is that there is something he can do about public spending. The Resolution Foundation is blunt, describing the apparent increase in fiscal headroom as a result of stronger tax receipts as an “illusion” because “It assumes higher inflation increases taxes but does not drive up public service spending”.

The IFS had a similar message in its green budget, saying: ”UK public finances are still in a parlous state, and the case for tax cuts at this time remains exceedingly weak – particularly as the government’s ‘true’ fiscal position is almost certainly weaker than official forecasts suggest.” The public spending projections for the period after the next election “look tight – perhaps implausibly so,” it added.

This is not the only issue for the public finances. Current projections assume that the chancellor will reverse the 5p a litre cut in fuel duty announced by Sunak in response to the cost-of-living crisis and also increase the duty in line with inflation. There is zero chance of that happening.

Hunt, however, sees a path to healthier public finances through making the public sector more efficient and productive, and limiting the size of the state’s workforce. Higher public sector productivity would make would look like “implausibly” tight public spending plans look much more realistic. His Treasury colleague, John Glen, the chief secretary, has been conducting a review of public sector productivity.

A programme of boosting such productivity could allow the chancellor to claim that his increased room for manoeuvre is genuine. It might even allow him to offer some modest crowd-pleasing tax cuts next year. To be fair, it is a better thing to do than pouring ever increasing amounts of money into unreformed public services. Public sector employment, at just under 5.7 million, is up by about 400,000 on pre-pandemic levels.

Experts, it should be said, are sceptical about the scope for delivering public sector productivity improvements in a way that will make a noticeable difference to the outlook for the public finances. There have been plenty of efficiency reviews in the past and none have successfully delivered sustained savings.

There is also a phoney element about all this. The next proper spending review is not due until autumn of next year. That is also the most likely time for the general election, suggesting that it is likely to be postponed. The issue of mending the public finances and dealing with spending pressures will be top of the next chancellor’s in-tray.