U.K. Treasury Told to Avoid Tax Increases as Budget Deficit Grows
Rishi Sunak, U.K. chief secretary to the treasury, arrives in Downing Street in London, U.K. (Photographer: Simon Dawson/Bloomberg)

U.K. Treasury Told to Avoid Tax Increases as Budget Deficit Grows

Investors, economists and lawmakers in Britain’s ruling Conservative Party are sending Rishi Sunak a simple message: Now is not the time for major tax rises.

The chancellor last month warned he will need to take “difficult decisions” to return the country to a sustainable fiscal footing after the coronavirus -- but signs are he won’t need to take them in his budget this fall. With the pandemic dragging on, his priority will be to avoid choking any recovery from the country’s deepest recession in at least a century.

“This is not a time, even for someone like me, for raw ideology: at the moment, what we need to do is bear with having a much higher debt,” said Steve Baker, a Conservative member of the House of Commons Treasury Committee normally hawkish on the deficit. “I am extremely skeptical that there is any headroom in terms of increasing taxes.”

With the U.K.’s national debt at more than 2 trillion pounds ($2.7 billion) for the first time in history, the Office for Budget Responsibility has calculated that the government will need to implement 60 billion pounds of tax rises or spending cuts every decade to return the national debt to what it calls a sustainable level over the next half a century.

U.K. Treasury Told to Avoid Tax Increases as Budget Deficit Grows

But Sunak’s options are constrained by his party’s promise at the last election not to raise income tax, value-added tax and national insurance -- the Treasury’s three main sources of revenue. On top of that, Johnson has ruled out any return to the austerity policies of his predecessors.

Sunak still has room, though, to raise significant sums by targeting companies, duties and tax breaks that he can argue benefit mainly the better-off. Recent media speculation has centered on:

  • Lifting corporation tax from 19% to 24%, according to the Sunday Times. That could raise 17 billion pounds for the government by 2024, based on Her Majesty’s Revenue and Customs estimates.
  • Ending the freeze on fuel duty, according to the Sun. That would save the government about 4 billion pounds a year -- but increase costs for millions of motorists.
  • Overhauling capital gains tax, seen by many as ripe for reform because money from the sale of assets is taxed more lightly than earned income. The Treasury ordered a review of the system in July.
  • Limiting tax relief on pension contributions. This cost the Treasury more than 21 billion pounds in the last fiscal year. Restricting the relief available to higher-earners could raise more than 11 billion pounds.

Johnson’s spokesman, James Slack, dismissed the stories on taxation as “speculation.”

“Clearly there need to be tough decisions made by the government -- I accept that -- but they can’t be decisions that clobber working people with taxes,” Conservative backbencher Robert Halfon said in an interview.

On Wednesday, Work and Pensions Secretary Therese Coffey lent her support to those campaigning against tax rises. “In the past when we’ve cut tax rates we’ve actually seen taxes increase, so tax rates is a very dynamic situation,” she told Times Radio. “Some people might assume the only way to get taxes up is to raise taxes.”

For Sunak, who has pledged a return to sustainable public finances in “the medium term,” the risk is that raising taxes too soon could choke a nascent rebound in consumer spending, which has seen retail sales recover to their pre-pandemic levels.

While debt is at a record high, the cost of servicing those borrowings is far less than what it was during the financial crisis, allowing the U.K. to tolerate a higher level of outright debt.

Gilt markets are also sanguine about the current state of the public finances. Thanks to the impact of Bank of England’s policy of buying up gilts in the secondary market, U.K. borrowing costs are still close to historic lows, while short-term rates remain below zero.

U.K. Treasury Told to Avoid Tax Increases as Budget Deficit Grows

The autumn budget will likely come at a delicate moment for the economy -- around the time most economists expect unemployment to start spiking as government support programs are withdrawn. That risks reducing the revenue-raising potential for any tax on income or sales, and will also mean the government needs to spend more on welfare payments.

There’s also the virus to contend with. A resurgence in colder months could deal a fresh blow to the economy, particularly if another nationwide lockdown is imposed, forcing Sunak to provide yet more support for workers.

“I would be very surprised if Sunak pushed through large tax hikes at this stage,” said Sanjay Raja, an economist at Deustche Bank AG. “It’s hard to see the Treasury undertaking any large scale fiscal tightening when uncertainty is rife, the labor market looks precarious and Brexit is on the horizon.”

U.K. Treasury Told to Avoid Tax Increases as Budget Deficit Grows

One option for Sunak would be to signal the path ahead, without announcing initial measures, according to former Chief Secretary to the Treasury David Gauke, who told Bloomberg Radio that “substantial sums” will eventually need to be raised through tax.

“There is a case for setting some sort of plan, a road map for taxes, if not in a November budget, then in the spring,” he said. “They will want to reassure the markets that there is a plan.”

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