Economists have raised serious concerns regarding Rachel Reeves’ decision to abandon plans for income tax increases in her upcoming Budget. Instead, she intends to pursue smaller interventions, which experts warn may complicate the taxation system and fail to create a necessary financial buffer for the United Kingdom.
Initially, the Chancellor was expected to propose an income tax hike to address a significant deficit in public finances, estimated at £20 billion. However, reports from the Financial Times indicate that Reeves has “ripped up” her previous proposals, choosing instead to explore alternative means of stabilizing the fiscal situation. Economists argue that relying on “inefficient” new taxes could jeopardize the government’s ability to shield the economy from future global shocks.
Late on Thursday, this shift in strategy was interpreted as a sign of governmental unease, following a week marked by negative headlines. Notably, speculation surrounded a potential coup involving Wes Streeting, the Health Secretary, which further fueled concerns about the government’s stability.
Jim O’Neill, a former Treasury minister and economic adviser to Reeves, expressed his dismay over the decision. He stated, “I’m surprised. If it means their defaulting to accumulated fringe, possibly growth damaging taxes again, it will be bothersome.” The abandonment of a straightforward income tax increase has paved the way for a range of smaller interventions, including a gambling tax, a bank levy, and various wealth taxes such as a mansion tax on properties valued at over £2 million.
The potential impact of these smaller adjustments is troubling for some economists. Stephen Millard, deputy director at the National Institute of Economic and Social Research (NIESR), cautioned against the increased complexity that such changes could introduce. “There are two dangers here,” he noted. “First, by resorting to smaller changes to lots of marginal taxes, the Chancellor risks making the overall tax system ever more complicated and inefficient. Second, this would make it harder for the Chancellor to build a large buffer against her fiscal rules.”
Concerns about the effectiveness of raising funds through smaller taxes were echoed by Isaac Delestre, a senior tax analyst at the Institute for Fiscal Studies (IFS). He remarked, “We obviously don’t know how much she’s looking to raise, but the risks of doing something unnecessarily economically damaging increase if she is going to look to raise large amounts from smaller taxes.” Delestre suggested that reviewing income tax thresholds could be a more viable option, as those thresholds have already decreased in real terms since 2021 due to freezing.
Bloomberg reported that Reeves received a more favorable fiscal forecast, prompting her to reconsider plans for income tax increases. The £20 billion shortfall is challenging but significantly lower than earlier estimates of £30 billion to £40 billion. Despite previous indications that she might pursue an income tax increase, the Chancellor’s current strategy appears aimed at avoiding voter backlash and discontent among Labour MPs.
In light of these developments, Labour MPs have expressed frustration with the government’s handling of fiscal policies. One Labour MP commented to The Independent, “I don’t think they have a clue. They’re making even good news look bad.”
Warnings from key figures within the party, including chief of staff Morgan McSweeney and welfare secretary Pat McFadden, regarding the implications of breaking Labour’s manifesto pledge not to raise income tax, national insurance, or VAT, have influenced Reeves’ decision-making.
On Friday, Culture Secretary Lisa Nandy emphasized that the government is committed to making “the fairest possible choices” in their budgeting process. In a discussion on Times Radio, she underscored the importance of careful consideration in crafting a budget that supports economic growth while alleviating the hardships faced by the public over the past decade and a half.
The decision regarding income tax was reportedly communicated to the Office for Budget Responsibility (OBR) on Wednesday, as Reeves prepared a list of “major measures” for inclusion in her Budget set for November 26, 2023. While the potential for an income tax rise could have contributed to bridging the fiscal gap, it would also breach Labour’s clear commitments regarding tax increases, leaving the government at a crossroads in its fiscal strategy.
