UK economy improving but far from cured

 
Allister Heath

THERE can be no doubt that this Winter Budget – as it should really have been called – was a great win for George Osborne. For the first time since around 2007, Britain is moving in the right, rather than the wrong, direction. Growth has bounced back, the deficit is falling, employment is surging, unemployment is slumping and he was able to announce a handful of useful wheezes, including a tax cut for small shops and restaurants, relief for motorists and a big tax boost for young earners. Ed Balls failed miserably to land any blows on the chancellor and performed so badly that his role as shadow chancellor must now surely be in doubt.

The elimination of employers’ national insurance contributions for those aged under 21 (as long as they don’t pay the 40p tax rate) will undoubtedly create many thousands of jobs; there is a risk that some slightly older workers may lose out, however, and be replaced by cheaper, less experienced staff but on balance that reform is very positive. It is a great shame that it won’t be starting before 2015. Reducing the rise in business rates was also a good move, though it could have gone further; the £1,000 rates cut for many small businesses was also good news. The long-run problem posed by this dreadful tax hasn’t been solved, however.

The marriage tax cut is a giant cop-out: most people won’t be eligible. The decision to rise the pension age – with today’s under-40s working until they are 69 before the state pension kicks in, and today’s youngsters having to work until they are 70 – is absolutely right. Again, however, why wait? This should be happening far more quickly.

I am very excited about two smaller policies. The coalition announced a pilot project for sharing some of the benefits of developments directly with individual households, which could create a market in development rights and eradicate nimbyism. If the winners of a development can directly pay off the losers, opposition to change would diminish dramatically. The second exciting policy, as I described in yesterday’s column, is the Treasury’s decision to start testing a dynamic model of the tax system which accounts for changes in incentives on economic growth.

But while it would be churlish to downplay all of this good news, Britain’s economy is hardly out of the woods. The much better growth comes in the context of still ultra-low interest rates and a still massive budget deficit. The public sector’s net debt is still rising horribly and will peak at 80 per cent of GDP in 2015-16; it will have risen hugely under Osborne’s tenure. Even more worryingly, the structural deficit isn’t going down; all of the progress has been purely cyclical. The UK is still facing a bleak fiscal future.

One reason for that is that spending cuts have actually been remarkably limited so far. The cumulative real cuts between 2010-11 and 2018-19 are now due to reach just 3.4 per cent. The OBR believes that total spending is due to fall on average by 0.49 per cent a year between 2010-11 and 2015-16; it will then fall by 0.2 per cent in 2016-17 and 0.5 per cent in 2017-18, before stagnating for one year (assuming, of course, that the Tories win the next election). There were never any “savage, vicious cuts” to overall spending, though it is certainly true that some parts of the public sector have been targeted disproportionately.

Just as worryingly, the recovery was meant to see a rebalancing away from private consumption and towards private investment and exports. As I have been arguing in this space for months, this is not happening and we are seeing the “wrong” kind of growth. The OBR believes that private consumption will contribute 1.2 points out of the 1.4 per cent growth this year; business investment will subtract 0.4 points, house building will add just 0.2 points, government will not contribute, inventories will add 0.4 points and net trade will reduce growth by 0.2 points. This is an awful outcome. What makes it worse is that this won’t really improve next year: of the 2.4 per cent growth that is expected, consumer spending will account for 1.2 points, government for 0.3 points (so much for austerity) and net trade for zero, which is shocking. Business investment (0.4 points) and housebuilding (0.4 points) are both due to improve but insufficiently. Osborne has achieved growth – but its composition is not a sustainable basis on which to rebuild the UK economy.

There were also some misleading statements, as ever. The chancellor has repeatedly and wrongly claimed that people who live overseas pay no CGT on their UK homes; but that is at best a gross exaggeration and at worst complete, misleading nonsense designed to stir up animosity towards prosperous foreigners.

In fact, as the Treasury itself admits in its document, many buyers already pay CGT on gains on their UK homes. If you are French, or American, or German resident, and make a gain on a UK home, you will have to declare it to your home tax authorities and pay tax to them (just as UK residents who make a gain on a property disposal in, say, Dubai, have to declare it on their UK tax returns and pay tax on it to HMRC). Osborne is right that people based in countries where there is no or very low CGT currently don’t pay CGT on their UK homes; and this reform would indeed hit them. But what is really happening here is that the Treasury wants to grab a slice of the pie: under most double taxation treaties, the host country has first claim on tax receipts from assets based under its jurisdiction. In future, the Treasury will grab 28 per cent on the gains from French residents; and the French authorities will have to make do with the difference between that and their tax rate.

There were lots of minor pieces of bad news that will make the UK less competitive. Oil service companies who lease equipment, such as drilling rigs, from other companies in the same group will be hit by higher taxes, making it even less economic to extract oil and, on the margins at least, contributing to the intensifying decline of North Sea output. Some buy to let investors will be hit by more CGT. The bank levy keeps going up; if the government really wants to do this, it should put the cash into a fund to be used for future bank resolutions, or get the companies to spend the money on building a new payment system that allows for bank account portability. But the current policy is just a drag, is bad for growth and contributes to scarcer and dearer credit.

All in all, this was the best day for Osborne in a long time; but while the British economy is growing again, the recovery’s foundations remain terrifyingly weak. We are far from being out of the woods.

NELSON MANDELA, RIP
A hero has passed away. Nelson Mandela was the last of the truly great 20th century figures, a global icon who defeated one of the most evil of ideologies, a political giant who helped bring humanity closer together.

He had a unique, astonishing ability to forgive, unify and embrace his former opponents and became an inspiration for a generation.

Madiba, you made the world a better place; we are all eternally in your debt. Thank you and sleep well.

allister.heath@cityam.com
Follow me on Twitter: @allisterheath

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