By Professor Andy Mullineux
Lloyds Banking Group Centre for Responsible Business, Emeritus Professor of Financial Economics
But the underfunding spooked the capital markets, putting pressure on the pound and government (‘gilt-edged’) bond prices, raising the cost of government borrowing and mortgages, and exacerbating the cost-of-living pressures.
The Blair-Brown government, elected in 1997, adopted a Thatcherism-lite neo-liberal policy with a New Labour twist: their so-called ‘third way’. It earned the trust of the capital markets, with the City of London at its heart, by pursuing Brownian ‘prudence with a purpose’, which was to increase public expenditure on education, health and infrastructure.
Chancellor Brown and his special advisor, Ed Balls, were taken with the ‘New Growth Theory’, prevalent in US academic literature. It extolled the growth benefits of public investment, which complemented – through positive ‘externalities’ – private business investment to increase growth. There was little dirigisme in industrial policy, except in promoting the City through ‘light touch’ regulation, following a major regulatory structure reform. And there was no attempt to roll back the Big Bang deregulations of the City introduced by the Thatcher government in 1986.
Thus, New Labour promoted the City as the ‘Golden Goose’ and was rewarded with the golden eggs of substantial tax revenue from bankers’ bonuses and financial sector profits, and substantial service exports with the caveat that the UK suffered from the ‘Dutch Disease’ – the pound appreciating to the detriment of the manufacturing sector.
In September 2022, a new government led by Prime Minister Truss and Chancellor Kwarteng, was installed by the Conservative party with the policy goal of kickstarting economic growth through unfunded tax cuts, including those for businesses located in new Industrial Zones and other deregulatory supply side policies. The aim was to foster business investment. But the underfunding spooked the capital markets, putting pressure on the pound and government (‘gilt-edged’) bond prices, raising the cost of government borrowing and mortgages, and exacerbating the cost-of-living pressures.
The need to regain the trust of capital markets raised the spectre of a return to austerity with resulting cuts in government expenditure, leading to increased inequality and a rise in child poverty (which Brown was particularly focused on reducing). The status of ‘levelling-up’, industrial policy and the government’s commitment to achieving ‘net zero’ carbon emissions by 2050 were unclear.
As regards where to make the cuts, government expenditure on health, education and skills training, social care and childcare, should be regarded as investments aimed at improving the labour supply in the face of skills shortages and a decline in the labour force, with half a million workers gone missing post-Covid. Increased immigration could also help plug the gaps.
With consumption growth impaired, labour supply restricted and little prospect of increased public investment linked to ‘levelling-up’, ‘Trussonomics’ focused on stimulating business investment. Yet foreign investment has been discouraged, rather than stimulated, post-Brexit – in part due to the uncertainty created by Covid. Additionally, business investment and productivity growth has been particularly disappointing in the UK, even though the previous Chancellor, Rishi Sunak, had introduced time-limited tax incentives for investment in response to the Covid-induced recession.
We are a long way from the ‘high wage-high productivity’ economy aspired to by Boris Johnson. The medium-term ‘Trussonomic’ solution was a deregulatory ‘Big Bang 2’ applied not just to the City, but more widely, involving a bonfire of EU regulations. Chancellor Kwarteng started by removing restrictions on bankers’ bonuses and the government seemed to be doubling down on feathering the nest of the Golden Goose (the City) through further financial deregulation, in the hope that it will produce the golden eggs of increased tax revenue and services exports. The financial sector is a little over eight percent of the UK’s GDP, so a broader based supply-side policy will ultimately be required. But for the moment, it is ‘back to the future’ as regards the City.
But on Friday 14 October, Kwarteng was sacked following the announcement of the first of many ‘u-turns’ over the coming days. First was abandoning the proposal to scrap the highest rate of income tax, which was aimed at encouraging investment by ‘wealth creators’. Then Sunak’s proposed increase in corporation tax was also kept. The following week, Jeremy Hunt, Kwarteng’s successor as Chancellor, announced that the proposed cut to the basic income tax rate would be indefinitely postponed and a number of other tax cuts were abandoned. Whilst the freeze on alcohol duties would be lifted, but the cut in stamp duty on house purchases would remain.
In addition, energy bill support for households, which was due to last for two years, is to be reviewed and a revised scheme targeting support to households most in need will be introduced in April 2023. A medium-term government budget plan will follow at the end of October, in which further expenditure cuts are anticipated. These may include raising universal credit, and other benefits, perhaps including state pensions, by less than inflation (a ‘stealth tax’). There was no proposal to reverse the NI tax cut, so the present and future funding gaps for the NHS and social care remain unplugged. And tax thresholds remain frozen – another stealth tax, operating through ‘fiscal drag’ due to inflation. The removal of the cap on bankers’ bonuses, a tax-raising measure, perhaps tellingly, was not revoked. In addition, an Economic Advisory Council will be appointed to provide independent advice to the Chancellor.
We remain far from achieving environmentally sustainable growth, which will require much more accurate carbon (emissions) pricing and accounting. Working towards achieving ‘net zero’ by 2050 will provide extensive new investment opportunities and high-skilled jobs, as acknowledged in recent US legislation. Just as fundamentally, a far-reaching overhaul of the tax system of the sort detailed in the 2011 Mirrlees Review is long overdue. The new Council’s economic advisors should tell the Chancellor that UK governments should stop tinkering around its edges!
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The views and opinions expressed in this article are those of the author and do not necessarily reflect the official policy or position of the University of Birmingham.