How will tax cuts impact you? Nine key questions answered ahead of Hunt's Budget

Credit: PA

Chancellor Jeremy Hunt will set out his pre-election Budget on Wednesday, with tax cuts set to be the headline measure on his fiscal agenda.

ITV News' Business and Economics Editor Joel Hills looks ahead to answer nine questions about what this means for the British economy and the political landscape.

Should the chancellor cut tax?

The chancellor has been saying publicly for several months that he wants to lower the tax burden.

ITV News' Political Editor Robert Peston has confirmed that Mr Hunt is set to knock two per cent off the rate of employee national insurance in his Budget.

The chancellor will repeat his view that countries with lower taxes are more economically dynamic (although the evidence for this is mixed) and that he is delivering a “Budget for Long Term Growth”.

But if there wasn’t an election months away, would he really be cutting taxes now?

Leaving aside the matter of the recession at the end of last year (which may yet be revised away), the outlook for economic growth is not great.

Interest rates have risen sharply, which means the government is now spending a lot more to service its debt.

And that debt is set to continue rising, stabilising only in five years time, despite the government’s pledge to bring it down.

The tax burden has risen dramatically since 2018.

The “state” has got bigger but there are plenty of signs that public services are really struggling in places - partly because of the pressure the pandemic put on them, partly because the population is growing and people are living longer.

In summary, and as Liam Byrne might put it, “there’s no money left.”

Or, as the International Monetary Fund (IMF) did put it in January: it would be unwise for the British government to cut taxes now. Indeed, taxes arguably need to rise.

Are the chancellor's tax cuts credible?

The chancellor promises he will only cut taxes in a “responsible and prudent” way.

Reducing the main rate of National Insurance will be a welcome tax break for anyone in work but the cut is “regressive” in the sense that high earners enjoy the biggest benefit.

Allowing people to hold on to more of their earnings does provides an incentive to work at a time when the number of people who are “economically inactive” is high.

And cutting the main rate of Income Tax would have been more expensive and more regressive. It would also have been a tax break for pensioners and landlords, who don’t pay national insurance.

On the face of it, the chancellor can’t really afford a big election giveaway.

There has been a lot of talk about “headroom” in recent weeks.

“Headroom” is probably best thought of as the amount of money by which the chancellor could cut taxes or raise spending and still meet his fiscal targets for borrowing and debt in five years time.

According to Treasury sources, the Office For Budget Responsibility (OBR) told the chancellor last week that he was on course to meet his primary fiscal rule - for public sector net debt to fall in the final year of its forecast (2028/29) - by a margin of around £13 billion.

That’s tight.

Chancellors have held an average buffer of £29 billion against their fiscal rules since 2010.

Cutting national insurance will eat-up £10 billion of the chancellor’s headroom.

Freezing Fuel Duty again, which the chancellor will also do in his Budget, burns through another £4 billion.

That’s his headroom gone.

How will tax cuts be paid for?

The chancellor doesn’t have the “headroom” to fund a two per cent cut to National Insurance so he intends to create it.

One way in which he will do this is by scraping together a number of smaller tax rises elsewhere.

Treasury sources have been briefing that that Mr Hunt is looking squeezing more out of “non-doms” - foreign nationals who are resident in the UK and have significant wealth overseas.

He is also looking at higher taxes on North Sea oil and gas production; vaping and tobacco; Airbnb/holiday lets; and Air Passenger Duty for Business travellers.

Individually, none of the above would be a big money-spinner for the Treasury. Even collectively they are unlikely to raise anything like £14 billion.

Chancellor Jeremy Hunt will announce further tax cuts could be announced in the spring Budget. Credit: James Manning/PA

What will tax cuts mean for public services?

Cutting national insurance should stimulate economic activity but tax cuts rarely pay for themselves.

In general, lower taxes require lower government spending in the long run.

Public services are already under great pressure. Local authorities are getting into financial difficulty. A handful of councils have effectively gone bust, others are dimming streetlights, leaving potholes unfilled and turning down swimming pool heaters in an attempt to cut costs.

Elsewhere in the public sector, prisons are running out of space; the courts are clogged with cases; the police are struggling to respond to burglaries, schools have recruitment difficulties and universities are wrestling with a fall in international students (whose fees subsidise those of UK students).

In his Autumn Statement last November, you may recall the chancellor used the higher tax revenues that high inflation has generated to fund a chunky tax cut to national insurance.

He chose not to use the windfall to help public services, where high inflation has put pressure on budgets.

Put another way, Mr Hunt financed lower taxes by squeezing public spending. And the signs are he is about to do so again.

In his Budget, the chancellor looks set to cut the planned growth rate in overall public spending (RDEL) from 0.9 per cent to 0.75 per cent from 2025/26 onwards.

As things stand, the Institute for Fiscal Studies (IFS) estimates the budgets of unprotected departments - local government, the courts, prisons and HMRC - will require cash top-ups of £20 billion a year by 2028/29 to avoid funding cuts.

The Budget is likely to increase the scale of the cuts which are currently penciled in.

Will the tax cuts have to be reversed?

The chancellor’s tax cuts are definite and certain, they will be implemented.

The same cannot be said for his implied spending cuts, because the government has not yet done a spending review. And there has to be some doubt as to how realistic they are.

In January, the head of the OBR, the Treasury’s independent forecaster, told a Lords committee that the lack of detail about the government’s future spending plans meant its forecasts on the outlook for the public finances were beyond “a work of fiction”.

Richard Hughes complained “the government hasn’t even bothered to write down what its departmental spending plan are, underpinning the plan for public services”.

It is possible that Mr Hunt will stand up tomorrow and say “I have cuts taxes today because I think it is the right thing to do but that means I have had to make some tough choices. And I have decided to make the following sacrifices…”

But that’s unlikely.

Mr Hunt will instead speak of “more productive public services.”

He will set out his belief that the solution here is not more money but greater efficiency and he has a point.

The NHS has more doctors and nurse than it had before the pandemic and yet they are not doing more stuff, as far as can be measured.

It’s not clear why productivity in the NHS in England and Scotland has collapsed in the way it has but it needs addressing.

However, resource does look like it’s part of the problem. British hospitals have a lot of staff but they have fewer beds and much less diagnostic equipment (MRI, CT and PET scanners) that in most other wealthy countries.

Have you heard our podcast Talking Politics? Every week Tom, Robert and Anushka dig into the biggest issues dominating the political agenda…

Will cutting National Insurance lower the tax burden?

The “tax burden” (tax receipts as a share of Gross Domestic Product (GDP)) in the UK is currently high by historical standards but it remains below the average across other advanced economies.

Taxes have risen sharply since 2018, partly to help pay for the £373 billion the government has spent helping households and businesses endure two huge economic shocks since 2020, the pandemic, followed by Russia’s invasion of Ukraine.

The Furlough Scheme alone cost £69 billion.

As it stands, the tax burden is on course to have risen by 4.2 per cent of GDP during the course of this parliament (2019 - 2024).

To avoid this being “the biggest tax raising parliament ever” the chancellor will be need to bring taxes down by 2.9 per cent of GDP in his Budget, which feels impossible.

But a tax cut of 0.5 per cent of GDP may be enough to keep the tax burden below the 1948 record (37.8 per cent of GDP).

What will tax cuts mean for interest rates?

Tax cuts put more money into people’s pockets and create demand in the economy.

The Bank of England is currently trying to subdue demand by holding interest rates at a level that’s high enough to get inflation back down to target.

It’s not obvious that now is a good time for a major tax cut - 20 million people pay national insurance - because it is likely to put upward pressure on prices.

It will be interesting to see how inflationary the OBR thinks another 2 pence off National Insurance is.

The risk is that cutting taxes may mean interest rates fall less quickly than they otherwise would.

Of course, it could be that the tax cuts in the Budget are balanced out with tax rises elsewhere and that overall there’s no significant injection of cash into the economy.

But then the chancellor would be creating losers as well as winners. He can’t have it both ways.

Chancellor Jeremy Hunt announced a number of tax cuts in his autumn statement. Credit: PA

Do the fiscal rules need changing?

This is a question that almost nobody outside Westminster will be asking tomorrow, or indeed perhaps ever.

There is no academic consensus of what the sensible level of debt as a share of national income should be.

But Liz Truss’s Mini Budget in September 2022 showed us what happens when international investors start to perceive the government as higher risk.

Fiscal rules are designed to matter.

In theory, when chancellors set them, they publicly tie their hands in a way that creates reputation damage if they do something different.

In practice, chancellors tend to change the rules if it looks likely they’ll break them. Mr Hunt has bound his hands about as loosely as he possibly can.

The objective of having debt falling in the medium term is perfectly sensible but his “rule” requires it to be falling five years from when the Budget is delivered.

That “headroom” target is really sensitive. Small movements in the forecast can cause the numbers to move all over the show.

Seeking to hit a target that’s such a long way off and has the potential to lurch around is inherently risky. Things could change dramatically, for better and for worse.

This is not necessarily a great “rule” to use to make policy decisions - not least because it can be so easily gamed - but it’s the main one we’ve got and Labour is not planning to change it.

What will tax cuts mean for the election?

The chancellor has his eyes fixed on a general election.

He will present his Budget as an attempt to revive our economic prospects but he is also hoping it will prove a vote-winner.

In a few months time the public will be asked to choose the next government.

As it stands, the economic strategies of the Conservatives and Labour look very similar.

Mr Hunt will use his Budget to position the Tories as the “low tax” party that will allow you to hold onto more of your earnings.

It is also possible that he will also nick two of Labour’s flagship manifesto pledges: higher taxes for “non-doms” and North Sea oil and gas producers.

To avoid being characterised as “tax risers,” Labour may decide it needs to vote to support this Budget.

Meanwhile, organisations like the Institute for Fiscal Studies are likely to warn that government is not being honest about where the cuts to public services will fall and that tax cuts today may well need to be paid for by tax rises after an election.

History suggests we shouldn’t be surprised if whoever wins the next election ends up hiking taxes.

The Conservatives did it after they were re-elected in 1992. Labour did it in 1997 and in 2001. The coalition government did it in 2010.

In each case, the tax rises didn’t feature in the manifesto.

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