Here is a prediction for you. Whatever the rights and wrongs, it will be a big surprise if at some point during the next couple of years a new higher rate of income tax is not introduced. Don’t be shocked if capital gains tax goes up in tandem, either.
One thing is for sure, government finances are set to hit crisis. Gordon Brown’s golden rule and sustainable investment rule are in tatters. Government borrowing is set to surge. It can be funded in one of two ways. Either taxes go up, or inflation is allowed to set in.
The real worry though, is this. Right now, tax cuts are likely to be the most effective means of getting the UK through this economic downturn as painlessly as possible.
Yesterday, the Centre for Economics and Business Research (CEBR) warned that public sector borrowing could be about to double.
Recent data from the ONS revealed that five months into the financial year, and cumulative borrowing so far is £30bn, which is 70 per cent up on the same time last year.
Capital Economics said: “If current trends continue, public sector net borrowing (PSNB) could total £60bn this year, around 4 per cent of GDP and close to £20bn higher than Mr Darling predicted in his March Budget.”
Capital Economics calculates that the base rate of income tax would need to rise from 20p to 25p in order to plug that gap.
The CEBR reckons the current financial year will see debt hit £63.3bn, but then expects borrowing to top £90bn next year.
Capital Economics expects borrowing next year to reach £80bn and £100bn in 2010/11. It says total borrowing as a percentage of GDP will be 6.5 per cent in 20101/11. To put this in context, borrowing in 1976/76 reached 7 per cent of GDP, and in 1993/94 it was 7.8 per cent of GDP.
If the government is forced to adopt a Paulson style new deal, then clearly borrowing will rise even further.
The one ray of hope in all this is that the UK’s total public debt, or net debt, is still quite modest compared with most other G7 countries.
The snag, however, is that if the government were to raise the base income taxes, the consequences for the economy would be disastrous. Recession could turn to depression.
Remember this. The UK is suffering from a burgeoning pension crisis too. The UK savings ratio has been too low for years. This was not such a significant problem in the mid 1970s and 1990s.
Keynes said the solution to an economic recession created by debt, was to cut taxes paid by lower income earners.
So, consider the plot so far. Government borrowing means a massive black hole is set to appear. Not the kind of black hole that some scaremongers have warned could occur on the Swiss–French border, rather an economic black hole.
Unlike the CERN project, any black hole that appears will not evaporate in a fraction of a second. This economic black hole will need filling.
Now, consider this. The media is full of talk about fat cats, greed, and how it has been a culture of excessive bonuses that has fuelled the financial crisis. This conclusion may or may not be right, but whatever the reality, nothing will persuade the media, and the electorate, otherwise.
Until recently, it was argued that top management needed to receive pay rewards determined by the market-place, to ensure incentive. It was then argued that this would be good for the economy, as the management that the corporate world would then be able to attract would ensure business prospers. This would be good for us all.
This view is now being re-thought. All of a sudden, it seems popular opinion says it was excessive pay rewards that created the financial crisis.
It is difficult to say for sure what this will mean. It may mean the top rate of income tax will be increased to, say, 50 per cent. It may mean the introduction of a third income tax tier for people earning above, say – well, that is a tough one. It seems most of us think people who earn a lot more than us should pay more tax. So those who earn £50,000 a year may think people earning more than, say, £100,000 should pay more tax. Those earning £100,000 will no doubt think people earning more than £2000,000 should pay more tax. Those earning £200,000, but are lumbered with a massive mortgage and crippling public school fees, will no doubt think the threshold should be £400,000.
The snag is this. The number of people earning over £100,000 a year is quite small. If they were to pay more tax the resulting extra tax revenue would be quite modest.
Whatever the final threshold is, may be uncertain. But a higher income tax rate for higher paid workers now seems an odds-on cert.
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