Unfunded tax cuts mean UK ‘will need £60bn in spending cuts’ | Economic policy

According to the Institute for Tax Studies.

The UK will also struggle to meet the Chancellor’s 2.5% growth target, with economic forecasts from investment bank Citigroup which the IFS uses to back up its analysis showing the UK will have to struggling to grow at more than 0.8% on average over the next five years.

That sluggish growth rate, thanks to a toxic cocktail of a slowing global economy, the UK’s weakening trade balance post-Brexit and mini-budget fallout, would be just under half the rate growth predicted by the Office for Budget Responsibility in March. .

UK growth

The £45billion cost of the mini-budget will erase any financial space left to the Chancellor by his predecessor, ballooning Britain’s debt as a share of national income for at least the next five years.

IFS director Paul Johnson said while it was “technically possible” for Kwarteng to balance the books via spending cuts, he warned that public sector spending had already taken a huge hit in the over the past decade and that there was “not much fat left”. to cut”.

In 2026, the government is still expected to borrow £100bn a year when previous forecasts showed it falling to nearly £30bn, the IFS said.

Part of the rise in borrowing is explained by the cap on energy prices which ministers agreed to keep the average household bill at £2,500 a year.

The IFS said the cost of the package would likely be lower than the £150bn expected by the Treasury at around £114bn, although it would still add to the avalanche of unfunded proposals put forward to boost growth .

UK government spending

Kwarteng and Liz Truss have argued that their tax reduction and deregulation policies will improve the business environment and increase profits, by increasing tax revenue to pay for state services.

However, the IFS said government plans to inject strength into the UK economy over the next five years to pay for increased spending were likely to have only limited effect, leaving ministers to proceed with heavy cuts in public services and keep tight control. on social benefits.

The Chancellor announced a reduction of 1 pence in the basic rate of income tax from next April and a reduction in social security contributions of 1.25%. In addition, it plans to freeze corporation tax at 19%, which would cost around £19billion compared to the previous plan to raise the rate to 25%.

Johnson said any options open to Kwarteng were unpalatable because they increased the public deficit or, to avoid it, involved sweeping cuts in public spending or breaking manifesto commitments.

UK spending on debt interest

In one scenario, he said Kwarteng could keep his tax cuts if he indexed working-age benefits to earnings and not inflation, cutting the rise to around 5% from 10%, to save 13 billion pounds. A cut in public investment by a third to 2% would save £14billion, while a return to austerity across most departments in Whitehall – excluding health and defense – could save £35 billion.

Johnson said the scenario also only protects the NHS and defense budgets from inflation when the health sector is likely to need even more cash to meet higher demand and the Prime Minister wanted to increase defense spending from 2% of GDP to 3%.

“The uncertainties about the evolution of the economy over the next few years make public finances very difficult predictions indeed. We are planning to borrow £100billion a year over the medium term – but that could be wrong by tens of billions either way,” he said.

“A credible fiscal plan will acknowledge this uncertainty, but cannot ignore the fact that a reasonable central forecast is that debt will continue to rise over the medium term,” he added.

Local authority bosses reacted angrily to the prospect of further cuts to municipal budgets.

Conservative Councilor James Jamieson, chairman of the Local Government Association, said councils had implemented cuts worth £15billion between 2010 and 2020.

“Given the funding shortfalls they are seeing, councils will have no choice but to implement deep cuts to services, including for the most vulnerable in our societies,” he said. .

The IFS report said the mini-budget has caused a seismic shock to the outlook for public finances that has left them deeper in the red.

‘That’s because the permanent tax cuts were bigger than expected’ and because expectations for Bank of England interest rates soared to almost 6%, pushing mortgage rates towards 8% .

Most economists have warned ministers that their plans to revive the economy are coming at a bad time, with inflation rising to around 10% and unemployment at its lowest level in 40 years.

UK benefits and pensions

Handing additional funds to households through tax cuts is expected to drive up inflation, increasing pressure on the central bank to raise interest rates even more than currently expected.

The OBR is the Treasury’s independent forecaster and will provide estimates of economic growth and the impact of the budget on public finances when the Chancellor releases his autumn statement on October 31.

Citigroup said the lower outlook was likely to temper the Bank of England’s appetite for interest rate hikes next year and that it would cap rates at a high of 4.5%, rather than the 6% currently expected by investors.

Benjamin Nabarro, the bank’s chief economist in the UK, said devaluing the pound to parity with the dollar would previously have made exports cheaper, boosted output and productivity and enabled the government to exit quickly from economic stagnation.

He said the negative impact of Brexit and the lack of skilled workers meant industry would struggle to benefit from a lower value currency, meaning stagnation was likely to persist.

“The medium-term investment outlook remains surprisingly weak. Aggressive monetary tightening [by the Bank of England] suggests that any meaningful recovery will likely be pushed back to 2025,” he said.

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