Julian Jessop is Chief Economist at the Institute of Economic Affairs.
The Chancellor’s slimmed-down Spring Statement was right to ignore calls for a public spending binge. Borrowing has been lower than expected, partly because the economy has continued to defy the Brexit doomsayers. As a result, the Government is close to balancing the books on day-to-day spending. But the overall deficit is still forecast to be £45 billion this year. What’s more, public debt is on track to exceed £1,800 billion. As Philip Hammond acknowledged, that’s around £65,000 for every UK household, which makes the economy more vulnerable to future shocks and is a significant burden on future generations.
Given this, it was disappointing that the Chancellor still appears to be biased towards spending even more. Or, as he put it (in Treasury-speak), “if, in the autumn, the public finances continue to reflect the improvements that today’s report hints at then…I would have capacity to enable further increases in public spending and investment in the years ahead.”
It is at least encouraging that Hammond is not taking the improvement in the public finances for granted. Otherwise there would be a clear danger that the Government veers off its fiscal targets every time it gets close to eliminating the deficit. Nonetheless, it is a shame the default seems to be to use any future wriggle room to increase spending.
The share of national income accounted for by public spending has fallen from a peak of more than 45 per cent in 2009, to less than 39 per cent now. But this improvement has largely come because the rest of the economy has recovered, not through cuts in the public sector itself. Indeed, the Government is still spending about the same today as it was in 2009, even allowing for the impact of inflation, and around £100 billion a year more in cash terms. The economy does not require a fiscal boost, and necessary increases in public spending in some areas could still be financed by savings in others.
Instead, the Chancellor should be focusing on two alternatives. The first is to run budget surpluses to accelerate the reduction in the debt burden. Net public debt is still forecast to be around 78 per cent of national income in 2022, more than twice the ratio before the global financial crisis. Even at current interest rates, which will not remain low forever, the central government is spending more than £50 billion a year on debt interest. Indeed, paying down debt can be thought of as reducing the need to raise taxes in future.
The second alternative, of course, is to cut taxes now. Taxes now account for around 34 per cent of national income, even on the most favourable measure. This is a burden last seen in the depth of the recession in 1981-82. And it is forecast to remain at this level for the foreseeable future.
If the country’s finances do continue to improve, there are plenty of tax cuts that the Government might then think about making.
One approach would simply be to continue the good work of cutting taxes that have already been reduced. For example, more people could be lifted out of Income Tax altogether by raising personal allowances further. A £1,000 increase would cost around £6.5 billion.
Another target might be the burden of taxation on companies. In practice, this falls on workers and customers as well as on shareholders, and hurts the wider economy in the form of lower investment. UK rates of Corporation Tax are already low by international standards and set to be cut further, but an additional reduction would send another strong signal that the economy is open for business after Brexit. Another one per cent off the main rate would cost around £2.4 billion.
However, there might be more mileage in breaking new ground. This would mean cutting taxes that have actually been increasing, or even abolishing some taxes altogether, especially where these are now more about raising revenue than serving any useful purpose in changing behaviour.
Candidates here include the surcharges on bank profits (forecast to raise £2 billion in 2018/19), the Apprenticeship Levy (£3 billion), Air Passenger Duty (£3.5 billion), the insurance premium tax (£6 billion), Vehicle Excise Duty (also £6 billion), climate change and environmental levies (together raising over £12 billion), levies on drinks related to their sugar content (a comparatively miserly £0.2 billion), and a host of other ‘sin taxes’ that are paid disproportionately by the poor.
One of the biggest prizes of all could be a fundamental rethink of taxes on, or related to property, including Business Rates (£31 billion), Council Tax (£34 billion) and Stamp Duty Land Tax (£13 billion). The sums involved here are too large for outright abolition of all three to be realistic. But Stamp Duty on residential property transactions (which raises about £10 billion) has been rightly criticised as an inefficient tax that dampens economic activity, restricts labour mobility, and prevents optimal use of the housing stock. The Government’s decision last year to exempt some first-time buyers has only added further complications to an already flawed system.
Abolition of Stamp Duty could be done as part of a wider review of property taxation, which should include discussion of some form of land value tax (LVT). In brief, an LVT is a tax on the value of the underlying land, independently of any specific improvements such as the value of any property built on it. Crucially, the owner must pay even if the land is currently unused. Unlike most taxes, then, an LVT actually encourages economic activity.
Overall, the Government needs to show more imagination. The public finances are close to a turning point when debt should finally start to fall, even before taking account of any Brexit dividend. But this should be seen as a golden opportunity to reduce taxation and allow the private sector more room to grow, rather than to increase the role of the state even further.