Mini-Budget 23.9.22: Tax Implications and Financial Market Consequences

 Our brand new chancellor has now delivered his much-heralded 'mini-budget'....how do his tax changes really look,  now that the market has responded and the dust has started to settle ?

Although advancing the planned 1% reduction in the basic rate to 19% to April 2023 is of course welcome, it only represents an annual increase in take home pay of a maximum of £375 for someone earning £50,000, and proportionally less for those lower down the earnings scale. It comes against a backdrop of spiralling inflation, which is likely to undo all its potential gains before it even kicks in. 

The reversal of Sunak's ill-judged  NI increase will help some of the working population, but will mainly benefit the better-off earners. Anyone earning below £12.5k will get nothing out of either change; pensioners of course won't get any benefit from the NI change - they have already paid for their state pension and healthcare during their working lifetimes, and quite rightly aren't required to pay NI contributions after retirement.

The main black-spot in the proposals is the chancellor's abject failure to undo Sunak's iniquitous tax thresholds freeze in what turned out to be his last budget. This effectively ignores the tax implications of recent and projected increases in salary levels, and is very disappointing, to say the least. Here's why....

For every £100 they earn above £50k, middle-earners will still forfeit £40, thus reinforcing the strong disincentive to progress up the salary scale beyond what is now a relatively low income level, particularly for single-earner households. I have already looked in detail at the potential consequences of this effect for our economic prospects in a recent blog. 

The much-criticised abolition of the 45% rate will also benefit only the very few richest in society (i.e those earning more than £150k), who really don't need taxpayers' help at this stage. There has already been widespread condemnation of the morality of this particular move in the current economic climate from many groups, not just those on the left of the political spectrum. 

More to the point, perhaps, it was probably the 'last straw' for the money markets this week in convincing them there were problems ahead for the UK economy if the leadership maintained their recipe for stimulating growth via unrestrained and uncosted borrowing.

Remember, as taxpayers, this is our money (and pensions !) our government are playing fast and loose with, not theirs.....

Given the run on the pound, which reached record low levels last week against the dollar, and the promise of worse to come for the economy, the Markets were well and truly 'spooked'. It's highly unlikely that the 'brightest and best' who are ostensibly being targeted by this measure, will be flocking to take up residence in UK any time soon - would you migrate to a potential economic 'basket case' in their position, given the choice ? Quite apart from the questionable security of their new job in the current climate, and potential issues they might face with UK immigration, anyone currently earning in dollars or euros now would certainly want to think carefully about taking a job paid in sterling, given its recent effective ca 20% devaluation.

Is the tax package really as generous as it might seem ? Probably not - if you look carefully at the tax reduction proposals it becomes clear that they have been carefully designed by HM treasury to appear generous to taxpayers without actually being so. It's doubtful whether they will even achieve its stated objective of rapid growth, given the likelihood of a continued world economic slowdown in 2023, and the 'drag' this will inevitably have on individual nations' economies, however 'go ahead' their growth strategy might be. The mini-budget has certainly been a 'headline grabber', but for all the wrong reasons.....

Independent financial experts have already confirmed that many middle-earners will be significantly worse off as their salaries rise with inflation and they are drawn further into the 40% tax band. Those of them who are mortgage holders will also be very concerned about the projected rises in interest rates to between 5% and 6%, which is more or less guaranteed now on the back of the pound's weakness and market sentiment, despite the BOE's 'rescue' intervention in the bond markets. They will certainly start to wonder whose side the government is on....Labour is already having a field day at the opinion polls and will continue to do so until we can convince the markets (and the IMF now) that we're not heading for national bankruptcy.

The only crumb of comfort in the proposals is the rather hasty post-event announcement of 'further tax changes to come', including a possible review of thresholds. 

Let's hope sense prevails and the basic and higher rate income tax thresholds are permanently unfrozen and set at a level that reflects recent and projected salary increases. 

If not, more and more workers at the bottom end of the scale will be drawn into tax they shouldn't be paying, and the 'go getters' that are so vital to our economic prospects will see their salaries eroded even further by the iniquitously low level at which the 40% tax rate still kicks in. No one earning less than £75-80k should be paying tax at this rate nowadays. 

This revision could be paid for by re-instating the 45% top rate, which would earn a lot of 'brownie points' with the general public and markets, without, I suspect, having much effect on the UK's attractiveness to foreign entrepreneurs. 

The reinstated 45% threshold could also be set at a higher level, thus still providing an extra incentive for both UK and foreign 'high flyers', without the obvious unfairness to the lower-paid of abolishing it entirely.

The chancellor will in any event have to convince the markets that he still has fiscal responsibility firmly in his sights by making it clear (and sooner than November, please !) how he proposes to rein in debt. Not an easy one, I suspect, but vital to convince the markets and preserve our financial stability....

While we continue to wish her success in her quest, Liz Truss also does need to take a step back here and reconsider the detail of her growth strategy against real world events. Can we really expect UK plc to go full steam ahead while the rest of the world is still mired in recession ? Her premiership may be quite a short one if she doesn't adapt.....those 1922 committee letters from MPs scared of losing their seats in 2024 may not be far away.

Viv

Update 3.10.22: No sooner predicted than done....the almost universally-condemned abolition of the 45% tax band has been abandoned,  as announced by the Chancellor this morning. A vital and indeed sensible move to restore at least some confidence in government leadership and direction. Hopefully it will convince the money markets that UK plc can and will avoid becoming an economic 'basket case'. A more detailed exposition of the mini-budget costings (preferably in the form of a timely OBR report) would also not go amiss. 

Time will tell whether the leadership learns its lesson....perhaps an unfreezing of the tax thresholds across the board could be the next tax reform on the agenda ? Raising benefits in line with price inflation might also help improve credibility.

Update 13.10.22: You couldn't really make it up....the advance in date for the 'revelations' on costings is welcome, if overdue. However, the choice of date beggars belief...Halloween is traditionally associated with witchcraft, magic and the occult. Could the Chancellor be about to announce that he has, in fact, now discovered the fabled 'magic money tree' and is preparing to harvest its first crop as the solution to all our financial woes ? Now that really would set the seal on the UK economy in the eyes of the markets.

Joking aside, the storm of protest against the chancellor's ill-judged mini-budget is now virtually universal. Trying to 'steamroller' it through the Commons now unmodified would do immense damage to the economy and would be suicidal politically for Truss and Kwarteng - yesterday's 'stormy' 1922 committee meeting has probably set the seal on that. Their only hope of survival is to make swingeing reductions in the extent of the tax 'giveaways' proposed, since it's obvious that public spending cuts and/or government 'efficiencies' won't cut it in the current climate. The best course would be to confine the tax changes to two measures - unfreezing the lowest two income tax thresholds and restricting the corporation tax rate reduction to only 2%. This would allow some extra incentive for business expansion and would be a much fairer way of redistributing the tax burden at a time when middle- and lower- income earners are particularly hard-pressed. We can all easily wait until 2024 for the promised 1% basic rate reduction, which is by far the most expensive move in any case, and would only provide at most an extra £375 p.a. per household. The NI increase was always earmarked for the healthcare sector, and thus has a built-in justification, and should go ahead to help keep our NHS afloat. 

The key move now must be to calm the markets, and we will only do this by adopting economically sound policies....financial prudence, after all, is (or should be !) one of the keystones of modern conservatism. 

At a time when the rest of the world is teetering on the brink of a prolonged recession, we cannot expect to 'go for growth' in isolation, no matter what. Any attempt to do so will be severely punished by the markets - and UK public opinion.

Update 15.10.22: To quote the recently much used phrase 'What a difference a day makes...'. I have to confess some difficulty in keeping up with it all. We now have yet another new chancellor - the 4th in as many months. I'll not dwell on the rights and wrongs of the latest ousting, but I doubt whether we have seen the last of the personnel changes in government. 

One can only hope that the appointment of a more seasoned and 'worldy-wise' politician to the role and the policy reversals he has already announced will help calm the Markets. Monday morning should give us an idea of the likely international reaction to the weekend's news. The new incumbent needs to take this on as an initial task, then focus on improving UK productivity before going all-out for growth so we can actually afford the sort of tax cuts we need to stimulate growth. Hopefully he will be allowed to do so - the PM herself has taken on virtual 'lame duck' status now, so he should have a pretty free rein. 

Head over to my recent blog on Productivity vs Growth for more details.

Update 20.10.22: Well, that 'budget' didn't take long for Jeremy to undo....the trouble is that once you've promised them something, the electorate are unlikely to forgive you for taking it away again without a very good reason, particularly if it's likely to hit them in the pocket. The chaos in government probably reflects the fear of this effect on their electoral prospects amongst many of the 2019-intake back-bench MPs.  Sadly, I doubt whether anything short of a general election and a spell in opposition will cure the Tories' current malaise now....watch this space. 

Update 21.10.22: What a difference another day makes...or does it ? Although Truss has now bowed to the inevitable, the 'government' is still not out of the woods yet...and the forest fire is still blazing. If the Tories are to survive until 2024, and avoid the inevitable washout if forced into a General Election at this stage, party unity around a compromise candidate is essential. Without it, they are 'toast'....

Viv

Version Date 21.10.22