Thomas Pope argues that announcing huge tax cuts without a new forecast and independent scrutiny is a big mistake – and warns that the new chancellor’s plan is unlikely to deliver the growth he seeks
The new prime minister and her chancellor had promised a big fiscal statement but almost all economic observers – the IfG included – will be shocked at just how large and radical Kwasi Kwarteng’s ‘mini’ budget was.
Promised reversals of national insurance and corporation tax increases, and trailed cuts to stamp duty, were accompanied by big cuts to income tax, including scrapping the 45p rate. And Kwarteng’s speech promised more to come, previewing further announcements on planning, business regulation, childcare and more besides.
This was an enormous fiscal statement in terms of the money spent – over £45 billion worth of permanent tax cuts – and it marks the Truss administration as a clear break from the past 12 years of Conservative governments. In the current economic environment it is a huge gamble, all the more worrying given the lack of scrutiny applied to a package hurriedly put together. And despite promises to be unpopular to drive growth, on tax in particular the chancellor has chosen cuts to headline rates rather than grasping the nettle on big tax reform.
Far from being a mini-budget, this was one of the biggest fiscal events in memory
When Liz Truss first announced her intention to hold a fiscal event in September, most assumed this would be to announce support to deal with the energy crisis and confirm her two pre-announced tax policies: reversing the health and social care levy and the planned rise in corporation tax. Instead, Kwarteng has set out a package which would ordinarily be seen in a full budget, with 19 different measures amounting to a permanent giveaway of over £45 billion per year, bigger than any fiscal event in the last 40 years. It is remarkable that a statement this large was delivered by a chancellor less than three weeks into the job.
Perhaps even more striking than the size of the package is the way it marks such a clear break from the past 12 years. The statement reverses several policies enacted by previous Conservative chancellors, including Rishi Sunak’s tax plans but also George Osborne’s 45p higher tax rate and reforms to ‘IR-35’ tax rules introduced by Philip Hammond. This is a marked break with his predecessors’ focus on fiscal sustainability, with promises of further reforms to ‘boost the supply side’ also implying a big shift in economic approach.
Making Kwarteng’s changes without oversight and scrutiny is a big mistake
Given the size of this package, it is all the more remarkable – and concerning – that it was announced without an update from the Office for Budget Responsibility (OBR), the government’s official independent forecaster. The chancellor reiterated his commitment to debt falling as a share of national income in the ‘medium term’, but a new forecast would have helped observers to understand what this would require. Importantly, it would also have required the chancellor to set out how the plans he announced can be reconciled with his fiscal objective.
Instead, he is able to make vague promises that higher growth will deliver the tax revenues he needs. But this is a gamble, and the value of an OBR forecast is that it helps the government and the public to understand the odds. The relationship between government policies and growth should be one based on evidence rather than ideological conviction. None of these measures were so time-sensitive that they needed to be announced before the next budget later this autumn. Doing it now looks like a deliberate attempt to avoid scrutiny.
The chancellor did commit to an update from the OBR by the end of the year – something which we called for in advance and is welcome – and he will need to explain how his plans add up by then. In particular, he will need to set out what his new tax plans mean for spending on public services which are already struggling in the aftermath of Covid. However, his decision to abolish the Office for Tax Simplification, a body designed to analyse the tax system and recommend ways to make it simpler, will do little to assure markets and the public that this is a chancellor open to scrutiny.
Kwarteng should focus on tax reform, not just tax rate cuts
The chancellor has put his tax changes at the heart of his plans to boost growth. As previous Institute work has highlighted, the tax system has many flaws which act as a block to growth. Kwarteng promised to deliver ‘tax reforms’ to improve the supply side of the economy, but what he announced so far was disappointing for those hoping he might look to grasp the nettle and tackle longstanding tax problems.
His version of tax reform is a series of cuts to headline rates that leave the structure of the system – and therefore any existing flaws – in place. He announced cuts to income tax, national insurance and corporation tax, but apart from small changes to capital allowances there was little that would constitute ‘reform’. The evidence suggests that cuts to headline rates alone are unlikely to drive big increases in growth, especially in the current environment where the Bank of England is raising interest rates, and they will certainly not pay for themselves. Kwarteng would do better by addressing longstanding distortions in the tax system, for example the bias towards self-employment and against employees. Changes like this would not need to cost nearly as much as the tax cuts announced and yet could be more effective at delivering growth.
Kwasi Kwarteng has only been chancellor for three weeks. But the chancellor has already announced more major tax policies than most No.11 incumbents might do in their entire career. It is a gamble, and it is far from guaranteed to pay off.