Allister Heath

A shameless Budget

A shameless Budget
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It's official: enterprise, hard work, education, success and aspiration are no longer valued in Britain. Yesterday's Budget, by far the most irresponsible in recent history, marked the final death of the New Labour project, which was meant to reconcile social democratic policies with a competitive economy.

From next year, anybody earning between £100,000 and £112,950 will be hit by a marginal income tax rate of 60 per cent as their personal allowance is wiped away ­ the real rate will hit 61.5 per cent with national insurance. After that, the tax rate will fall back to 40 per cent for a while ­ 41.5 per cent with the new national insurance super-rates. After £150,000 it will jump to 50 per cent ­ or 51.5 per cent including NICs; meanwhile, pension tax relief will gradually halve until earnings hit £180,000 a year, when it will fall to just 20 per cent.

Britain will have the highest top rate tax of any large, Western economy; this disgusting rekindling of the politics of envy will do immense damage to our prosperity and culture, triggering an outflow of capital and talent. Far from bringing in revenues, the hike will surely reduce the tax take, as economist Arthur Laffer predicted.

The rest of the Budget was equally hopeless. Its most ridiculous assumption was Darling¹s view that the trend rate of growth (the UK¹s long-term sustainable, non-inflationary cruising speed) will return to 2.75 per cent a year. Without it, there is no way that he could have predicted that growth will jump back to 3.5 per cent in two years¹ time, an utterly implausible forecast given the horrendous fiscal squeeze, tax hikes, ending of quantitative easing and everything else that will have hit Britain by then. We might by 2011 be facing a double-dip recession and a crisis that could almost bankrupt the state.

I¹m relatively optimistic in the short-term and agree that growth could return at the end of this year or at the start of 2010; it may even be that the economy could grow by 1.25 per cent next year, though 0.5-1 per cent would seem more likely. But, after that, I depart from Darling¹s deluded optimism and his view that growth will hit 3.5 per cent in 2011, 2012 and 2013. These figures are fanciful and will mean that he stands no hope of halving his deficit over four years. The British economy won¹t bounce back triumphantly, trampoline-style ­ it will merely crawl back, like a sickly, wounded beast begging to be put out of its misery. We will be dragged down by the hangover from the credit crunch as well as our eroded competitiveness.

Don¹t believe the government¹s mendacious narrative, which is essentially as follows: "The recession was a temporary blip, caused by a global downturn, which has caused a huge amount of spare capacity in the economy. Over the next few years, we will see much faster growth until this excess capacity is filled, and all will eventually return to normal, including tax receipts and jobs." That is why, for example, the Treasury wrongly thinks the savings rate will rise much less than it did in the early 1990s.

The truth, of course, is that a huge chunk of growth during the bubble was a debt-fuelled illusion that will never return. There is no spare capacity in the economy that will easily be filled again, just a big black hole. The trend rate of growth has probably dropped to 2.25 per cent a year. There are many reasons for this: marginal taxes, which affect incentives, are far steeper; the low-productivity state sector is much larger at almost half of GDP; the City, which produces high value added output, may never fully recover; and we can no longer use our homes as cash machines.

The predicted £700bn or so in extra borrowing over the next few years is therefore a dangerous under-estimate. The government says it will have to borrow £175bn this fiscal year, £173bn in 2010/11 and £140bn in 2011/12, well above levels (as a proportion of GDP) seen during previous recessions. But the real figure will be even higher, unless spending is massively curtailed or taxes hiked in a dramatic way (and don¹t forget that these figures, like all official government statistics, are faulty as they exclude myriad off-balance sheet liabilities which should really be on the state¹s books). Darling somehow assumes a sharp rise in the tax/GDP ratio from 35.1 per cent in 2009/10 to 37.9 per cent in 2013/14; this won¹t happen without more new taxes.

That is the real story of this Budget: radical, painful action was sorely needed yet Darling decided to buy time instead, reigniting class warfare in a cheap bid to appeal to the Old Left while creating a strategic headache for the Tories.

In fact, Darling is actually planning to hike public spending by £17.7bn for 2009/10 and by £19.9bn in 2010/11, compared with previous forecasts. This addition is much bigger than the effects of extra unemployment benefits and debt service alone (forecast by the Treasury to rise by £5.7bn for 2009/10 and by £9.8bn for 2010/11). Eventually, spending will rise by 0.7 per cent a year, less than previously expected, but not until after the election. As a result, Citigroup is raising its deficit forecasts yet again, to £189bn (13.5 per cent of GDP) for 09/10 and £203bn (14.1 per cent of GDP) for 2010/11, versus £174bn and £190bn previously. In scandalous proof that it has lost the plot, the government now expects real public spending (deflated by the GDP deflator) to rise by 5.5 per cent year on year in 2009/10, the strongest pace since 1991/92.

When the gilts markets, which already have to digest the prospect of £220bn in issuance this year, get to grips with this, it will be time to short sterling and short the UK. Under the Treasury's forecast, the public debt/GDP ratio will rise from 36.5 per cent in 2007/08 to 76.2 per cent in 2013/14. Under Citigroup¹s much more plausible forecast, it will reach 90 per cent of GDP in 2013/14, with public debts at £1.6 trillion in 2013/14. The debt/GDP ratio would be close to 100 per cent of GDP by then.

This government needed to show some contrition, admit the public finances were in crisis and produce a realistic, year-by-year plan to bring them back under control, based on dramatic cuts in spending. Instead, it tried to spin itself out of trouble yet again, concocting over-optimistic growth and revenue forecasts, launching a spiteful, economically destructive yet fiscally irrelevant attack on wealth creators while entirely failing to tackle the over-bloated public sector and embarking on the greatest pre-election spending binge in 18 years. It was truly a shameful budget from a shameless government.

Allister Heath is the editor of City AM.  Read his review of Vince Cable's book in the latest issue of the Spectator, online here.