UK: Smith on Economics - The long view gets a snap verdict - After two years of reforms designed for the ...

UK: Smith on Economics - The long view gets a snap verdict - After two years of reforms designed for the ... - Smith on Economics - The long view gets a snap verdict - After two years of reforms designed for the long term, Gordon Brown is preparing a bud

by DAVID SMITH.
Last Updated: 31 Aug 2010

Smith on Economics - The long view gets a snap verdict - After two years of reforms designed for the long term, Gordon Brown is preparing a budget that could be sorely tested by recession. David Smith looks at his options.

With the March 1999 budget, Gordon Brown is marking the last big act of a highly energetic first two years as chancellor of the exchequer.

He has orchestrated three budgets, two pre-budget reports, Bank of England independence, a comprehensive spending review culminating in a three-year public expenditure settlement and the launch of a new 'prepare and decide' policy for the euro, including the national changeover plan published earlier this year.

In between times, the chancellor has chaired the European Council of Finance Ministers, during tricky monetary union negotiations last year, as well as Group of Seven talks during last autumn's financial hurricane.

Whatever the rights and wrongs of the great 'productivity' debate, it is hard to fault the Treasury's recent productivity record under Brown.

Nor has this just been political huffing and puffing. The economic environment, and the way the economy is managed, has changed fundamentally over the past two years, most notably as a result of Bank independence but also on the fiscal side. The abolition of the dividend tax credit, replacement of personal equity plans and tax-exempt special savings accounts with individual savings accounts, the introduction of the working families' tax credit and the reduction in the corporation tax rate to 33% are all significant policies. Before the next election, there will be a 10% starting rate of income tax.

Perhaps more importantly, Brown has tied himself to the mast of fiscal responsibility with his deficit-avoiding 'code for fiscal stability'. He announced a significant three-year relaxation of public spending last year, which takes effect from this April, but only after he had raised tax significantly and frozen real spending for the first two years. This was a very clever sleight of hand. By saying he had inherited a fiscal mess from the Tories, Brown has been able to squeeze hard initially, paving the way for a relaxation of public spending later and, if all goes according to plan, leaving a little bit aside for that 10% tax rate.

Can he afford to be bold?

After so much activity, what does Brown do next? Does his approach add up to a coherent economic strategy? Will 'events' turn his best-laid plans to dust?

Part of the answer to the first question will be provided very soon.

I think we can take it that, however modest the package, and even without his faithful spin doctor Charlie Whelan at his side, the new budget will be presented as bold and radical.

The problem is that we have moved into areas of tax policy where boldness can be risky politically. Last November's pre-budget report set out a series of options for environmental taxes, including the introduction of economic instruments to control pollution (tradable permits to pollute), greater variability of vehicle excise duty in relation to engine size, a higher landfill tax and the introduction of an aggregates tax. Meanwhile, the Government has skated round hitting the middle-class road-user hard as part of an environmental strategy but, with world oil prices at their lowest levels since the first OPEC crisis, this too may have to be reconsidered.

Industry is already protesting against being clobbered by new environmental taxes, and Downing Street is wary of moving in on energy consumers, for fear of revenge at the ballot box.

There are the makings of a grand European strategy on this issue, with Oskar Lafontaine, the German finance minister, pushing the idea of big increases in energy taxes to fund reductions in the demand for labour.

It remains to be seen how much of this will remain just talk.

In other areas, too, it is hard to see much scope for the chancellor to brand himself as a major tax reformer. The 10% starting rate of income tax was essentially a pre-election gimmick, intended to trump the Tories' 20% reduced rate, and establish Labour in the public mind as a low-tax party. At some stage, it will have to be introduced, although squaring it with Brown's other big ambition - to use the tax system for some quite serious redistribution of income - is not that easy. The trouble is that a 10% tax on the first slice of income is of considerable benefit to higher rate taxpayers.

Then there is another theme. In spite of the reductions in corporation tax, there is no doubt this Government sees business as capable of bearing a greater burden through taxation and more generally. The administrative burden of operating the working families' tax credit and the minimum wage, for example, will fall mainly on business. Larger businesses should be able to cope. Smaller ones may not be.

Looking at the longer term

If there is a strategy underlying Brown's actions, it is that past chancellors have too often been derailed by the problems of short-term economic management.

By giving the Bank of England control over interest rates and setting tax and spending policy in a medium-term framework, he can get on with the task of improving Britain's long-term economic performance. Thus, we should perhaps expect most of Brown's chancellorship to be characterised not by macroeconomics but by measures to improve that long-run performance.

For any politician, the trouble with this is that the results only become apparent long after they have departed the scene. The reforms of the '80s, for example, have produced an improvement in the 1990s in the trade-off between inflation and unemployment - the 'natural' rate of unemployment has fallen. But the Tory politicians who introduced them are associated in the public mind with policy failure.

The main risk to Brown's shorter term reputation is something I have believed inevitable for the past six months - a UK recession. All political careers, it is said, end in failure and those of chancellors, even more so. If the recession is mild, or if the chancellor can persuade the public it was caused by events outside his control, he may escape that fate.

But it will be a close-run thing.

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