How Sajid Javid can be a tax reforming chancellor

Tax is one of the most powerful tools that the government has at its disposal. But the Conservative Party’s manifesto, which promised much in the way of investment in public services, spelt out only minimal specific new tax policies and imposed some tight constraints by ruling out any increases in the rates of the three largest taxes – income tax, National Insurance contributions and VAT.

Efforts at tax reform have tripped up many past chancellors, but it need not be an insurmountable issue, as a new Institute for Government report – drawing on interviews with former chancellors and those who have served and advised them – outlines.

And there are three big reasons to think that Sajid Javid, the returning chancellor, may want to do more in this area than his party’s manifesto set out.

There are three reasons to tackle tax reform

There are long-standing problems in the UK tax system, including poorly designed tax reliefs and unnecessary complexity. These deficiencies mean the government raises less money than it could while nonetheless discouraging economic activity by more than it needs to.

Economic and behavioural trends – such as the growing role of hard-to-tax digital services and the potential shift to electric vehicles – are undermining the ability of the existing tax system to raise as much revenue as it has in the past.

Addressing these problems – by creating a simpler, more transparent and more sustainable tax system – could be a source of competitive advantage for the UK.

Even if these issues do not motivate the chancellor, growing pressure for extra spending on public services – to meet the demands of the UK’s ageing population and address poor quality and performance in some areas – may at some point force Boris Johnson’s government to look to the tax system for extra revenue.

The general election results gives this government an opportunity to bring in tax reforms

If and when the new government turns its attention to taxation, it will find itself in a position that no government since Tony Blair’s second term has enjoyed – a parliamentary majority as high as 80 seats. That opens the door to grappling with the question of tax reform.

But even for a government with a sizeable majority, reforming the tax system – that is, making substantive changes to the structure of the tax system or raising the overall tax take – will not be easy. Nigel Lawson is usually remembered as the last great tax-reforming Conservative chancellor. But he enjoyed not only a large parliamentary majority but also the fiscal luxury of being able to cut taxes substantially at the same time, which allowed him to compensate many of those who lost out. The current government will almost certainly not have this luxury.

It is possible to overcome the barriers to tax reform

Despite the difficulty of making tax changes without the money needed to compensate losers, our work suggests the chancellor could make progress in this area by being clear about his objectives and communicating effectively with the public.

Since the government is likely to have to expend political capital on legislating for tax reform, a clear picture of what the tax system is intended to do and how it supports the government’s wider ambitions for the country needs to be backed by both the chancellor and the prime minister. Such a vision will provide greater certainty for businesses and help convey what former Treasury permanent secretary, Lord Macpherson, described as a “coherent narrative” to the public about why change is needed.

“To make good policy you have to open up the space and you have to move into it,” said Ed Balls, who served as both a special adviser to Gordon Brown and as chief economic adviser, before returning as economic secretary to the Treasury. But he also warned that “there’s only so much government can do to open up that space.”

The government should, therefore, consider other ways of opening up debate about the need for tax reform – such as commissioning independent reviews or exploiting the agenda-setting power of third parties. The success of the Wanless and Turner Commissions – into how to increase NHS funding and how to bolster the affordability and adequacy of pensions in the UK respectively – shows what can be achieved, even in thorny policy areas.

The chancellor should weigh up the costs and benefits of acting early on tax reform

Sajid Javid may be tempted to follow Nigel Lawson’s advice to seize the opportunity of the first post-election budget “to introduce reforms which might be difficult later on, either because they are too controversial or because it takes too long for their beneficial effects to become apparent before the next election.”

There is a clear attraction to doing so but he should be wary of following this course. The Conservative Party’s manifesto does not provide a mandate for action and the government has not laid the ground for change.  That means that Sajid Javid is starting in a difficult place if he is to achieve much-needed tax reform. However, the government’s sizeable parliamentary majority, and the prospect of many years of stable government ahead, allows him to set out and implement a vision for reform. He has the oportunity to create a much-improved tax system that could bolster fiscal sustainability and be a source of competitive advantage to the UK.