The political party conference season is over and budget season is firmly under way. The conferences are all about promising things that members like, such as tax cuts and extra spending, and for getting leaders over a not-so-difficult hurdle.
Budget reality is different. The certainty that the Office for Budget Responsibility (OBR) has downgraded its medium-term productivity forecast because of its disappointing performance over 15 years has guaranteed tax hikes in the November 26 budget.
I shall dig further into this downgrade, and whether it is the right thing to do, between now and the budget. The tax increases we can expect will be a combination of the immediate and delayed, it seems, alongside modest spending restraint; not everything can be put off into the future if markets are to be assuaged. Although there is a long way to go, I suspect Rachel Reeves knows roughly what will be in her second budget.
In contrast to the reality of impending tax hikes, both the Tories and Reform UK used their conferences to promise tax cuts funded by hard-to-deliver spending cuts. Of the two parties, as I pointed out here recently, the Tories, along with their other mainstream rivals, know about the realities of government.
To be fair, if you were choosing a tax to abolish, then stamp duty, whose partial abolition was announced by Tory leader Kemi Badenoch, was a good one to choose. The policy was greeted enthusiastically in the housing industry, though most economists would say that many of the benefits for buyers, which would be greatest for the richest and for downsizing pensioners, might be lost because of the resulting increase in house prices. For first-time buyers, that would add to the burden of putting together a deposit.
And, while the journey is very long from where we are now to the Tories being in a position to implement the policy, it sets down a marker. It also makes it harder for the government to contemplate putting up stamp duty.
• Kemi Badenoch stamps her authority and gets the crowd on its feet
The wider problem when it comes to fixing the public finances is that there are too many sacred cows. This goes beyond the taxes that Labour promised not to increase in its manifesto last year: income tax, employee national insurance (NI), VAT and corporation tax. Manifesto promises have been broken before, but Reeves appears determined to stand by them.
There are other sacred cows, and some appear even more untouchable. Two are the state pension triple lock and fuel duty. Anyone who looks at the numbers knows that the triple lock is unaffordable over the long term. To remind you, it means that the state pension should go up in line with inflation, average earnings or 2.5 per cent, whichever is highest.
It has not been around for ever, dating back to only 2012 — not the only unfortunate legacy of David Cameron’s period as prime minister. But many pensioners have come to see it as their right, their reward for a lifetime of NI contributions, which have nevertheless left the UK state pension lower than European equivalents.
Those contributions were, of course, indistinguishable from other taxes. The state pension is pay as you go, meaning current taxpayers pay for today’s pensions. The comparison with the very different insurance-based systems in Europe is spurious, not least because the UK has much more developed occupational and personal pensions.
But we know that the triple lock is expensive, and getting more so, as some people were brave enough to say at the party conferences. On its introduction it was expected to cost an extra £5.2 billion a year, compared with previous arrangements, by 2029-30. Now that estimate of the additional cost is £15.5 billion.
In the coming decades, the OBR says, the combination of the triple lock and an ageing population will mean that the cost to the government of state pensions will rise from 5 to 7.7 per cent of GDP, and higher on some of its scenarios.
Faced with these numbers, many people raise the issue of supposedly “gold-plated” public sector pensions. Many of these schemes are indeed generous, and unfunded ones represent a shadow increase in government debt, in the sense of not being included in the main debt numbers. But, because of past reforms and the fact that contributions are rising faster than inflation, cost to government of public sector pensions is predicted to fall from 1.9 per cent of GDP now to 1.4 per cent in coming decades.
Returning to the triple lock, there is no doubt that reforming or replacing it would be greeted enthusiastically in financial markets, particularly the government bond market. An announcement would significantly ease the pressure that has pushed up bond yields and, ultimately, the cost of borrowing on long-dated gilts.
• Comment: State pension triple lock is unsustainable and must go
But while this is recognised, it is politically hard to do, which means that pensioners can probably relax, even if the rest of the country cannot. Politicians are forced into pledging to preserve the triple lock to get elected or re-elected, and nothing changes. Let us hope that somebody is brave enough to brave that deadlock.
Some would say that there are plenty of other things ripe for cuts, including the rising welfare bill for long-term sickness, particularly mental health, which is one of the targets for Sir Mel Stride, the Tory shadow chancellor.
The bill for health and disability benefits is due to increase from £66 billion in 2023-24 to more than £100 billion in 2029-30, following the cancellation of the small cuts announced in March. There is an awareness across government of the need to control it, but that is hard to do without reversing the sharp rise in long-term sickness since the pandemic, or the diagnosis of it. There is no magic bullet, no easy way of convincing the holders of UK government debt that cuts can be achieved.
It is not just benefits where there is a problem. On the tax side, fuel duty is another sacred cow. The freezing of it since 2011 has been hugely costly: together with the 5p-a-litre cut announced by Rishi Sunak when chancellor, OBR figures show it has cost a cumulative £100 billion. Introduced by George Osborne as a temporary measure, with a view to reinstating rises if oil prices fell sufficiently (which they did), the freeze looks to have become permanent. Every time it is maintained, other taxes must go up instead.
• David Smith: Rachel Reeves can’t kick the issue of fuel duty down the road
When the freeze began in 2011, the price of unleaded petrol was about 135p a litre, roughly today’s average. Along the way, according to official figures, it has been as high on average as 191p a litre and as low as 105p. Prices have gone up and down even in the absence of duty changes. Today’s average price represents a fall of about a third in real terms since 2011.
These sacred cows are not only expensive but also hard to justify in policy terms.
PS
My request for bold budget ideas from readers is being met. Related to my main piece today, David Ball suggests that instead of the state pension rising by the highest of earnings growth, inflation and 2.5 per cent, it should increase by an average of the three.
It would save money. Using data from the investment manager Fidelity, but based on my calculations, I estimate that the state pension would have risen by 52 per cent since 2010-11 using such an average, compared to 81 per cent under the triple lock.
I suggested to him that such a change would still have pensioners out with their pitchforks, as with winter fuel payments. He said not, and that most would regard the change as fair because no one group can expect to have the highest increase every year. Interesting.
Brian Gaze had another idea: to introduce a new income tax band — a 30 per cent rate kicking in at about £35,000 — combined with a lifting of the higher-rate threshold from its current £50,271. This would meet the letter of Labour’s manifesto commitment not to increase the basic or higher rates of income tax, though would fall foul of its spirit.
It would also mark a return to how income tax used to be. Fifty years ago, the basic rate itself was 35 per cent and there were no fewer than nine different tax rates up to the top one: a searing 83 per cent.
How much would it raise? A lot. I have not seen a precise calculation, but a 30 per cent income tax rate that applied between £35,000 and £55,000, allowing for the £6 billion cost of raising the higher-rate threshold, would net about £50 billion extra per year by my calculations. In this case it would not just be pensioners wielding the pitchforks, but keep the creative thinking coming in.