This week’s Conservative Party conference marks a very important shift in the Tory strategy on tax.
Two years ago, a number of the “über-modernisers” were suggesting that the Conservatives may even have to support tax increases to win the trust of the electorate to get back into power. This strategy fortunately never became official policy, but last year the Shadow Chancellor George Osborne pledged to put economic stability before tax cuts, and promised that there would be no upfront, unfunded tax reductions before the next election.
During this week’s conference, the Shadow Treasury team still talked about “putting economic stability first”, but came round to offering two important tax cuts:
- The Inheritance Tax threshold would rise from £300,000 to £1 million, taking ordinary families out of the tax altogether.
- The Stamp Duty threshold for first-time buyers would double from £125,000 to £250,000, taking most first-time buyers out of stamp duty altogether.
This shift towards reducing taxes helped to unite the Party conference in Blackpool. It should also lead to a post-conference bounce for the Conservatives in the opinion polls. The most recent TPA poll of 2,000 adults, conducted by YouGov, showed that:
- Inheritance tax is perceived as the most unfair tax of all.
- Inheritance tax is the third most popular tax to be reduced, marginally behind lowering council tax and raising the tax-free personal allowance.
- 44 per cent think that the party they support should pledge to reduce taxes, compared with just 6 per cent who think they should pledge to increase taxes and 38 per cent who think they should pledge to hold taxes at the current level.
The TaxPayers' Alliance heartily welcomes this change of emphasis from the Conservative Party. The Times has also reported that there may be more to follow, which we look forward to. There are, however, a few points to be made on some of the details of the Tory policy.
1. George Osborne also announced on Monday a new tax of £25,000 for all non-domiciled individuals, which would offset the revenue lost from the Inheritance Tax and Stamp Duty reductions. This may not work as the Shadow Treasury team hopes. As Fraser Nelson points out in The Business, non-doms are highly mobile internationally, and a proportion of them may decide to leave Britain as a result. The Treasury has also said that there are fewer non-doms than projected by the Tories. Both these factors could mean a revenue shortfall in the Tory plans. Two observations are worth making here:
- It does not matter if revenue from the new tax on non-doms is less than the £3.5 billion projected by the Conservatives. £3.5 billion is less than half a per cent of total government revenue – not far greater than a rounding error and certainly less than the forecasting errors that have repeatedly been made by the Treasury in recent years. In any case, a reduction in the tax burden is something to be welcomed.
- It does matter if a large number of non-doms leave London as a result of the Conservative plans. This could threaten the global leadership of the City – the mobility of international finance should not be underestimated. There may be a good reason why Gordon Brown has so far left non-doms largely alone.
2. The Conservative tax plans, like those of the Lib Dems, are revenue-neutral. But Britain urgently needs a reduction in the overall burden of tax. Hard-pressed families are over-taxed, and businesses in Britain are loosing out to those in more competitive economies overseas. In the globalised economy, there can be no economic stability in the long term without overall tax reductions.
3. One of the main reasons why the Conservatives are not able to reduce the overall burden of tax is that they are committed to spending the same amount as Gordon Brown. Over the next three years, public spending will grow by 2 per cent in real terms each year under both main parties. This leaves little room to reduce taxes:
- If the economy grows at its trend rate of 2.5 per cent per annum, then increasing spending at 2 per cent would free up around £3 billion a year to reduce taxes.
- This, however, is now unlikely. The credit crisis is unfortunately likely to spill over into the real economy. Economic forecasters are now predicting that growth will be less than 2 per cent in 2008. ING forecast 1.7 per cent growth, while the Centre for Economics and Business Research predicts that growth will fall to just 1.4 per cent next year. If so, growing spending at 2 per cent would mean higher taxes overall, or more borrowing, or a bit of both. The Conservative plans could lead to an expansion in the size of government, with tax rises in the middle of an economic slowdown – the worst possible policy which really would threaten economic stability.
- From conversations with members of the Shadow Treasury team during the conference, it is clear that they would get round this problem by basing policy around the economic cycle, rather than annually. To avoid the problems of the political manipulation of the economic cycle, as has occurred under Gordon Brown, definition of when an economic cycle begins and ends would be outsourced to an independent body. Assuming that growth averages out at around 2.5 per cent over the economic cycle, it would therefore be possible to reduce the overall burden of tax by the end of the cycle.
- But, it is still not clear what would happen if the Conservatives win an election this autumn and are then faced with a commitment to grow spending by faster than the economy for the first year, or two, or three, (depending on the duration of the slowdown) of their time in office. In that scenario, would they increase taxes – a crazy thing to do in the middle of a slowdown – or allow borrowing to increase – which would allow Gordon Brown to throw their “stability first” platform back at them and make their criticisms of Gordon Brown’s borrowing seem like hot air? It would be very difficult to say: “We’re raising taxes/borrowing this year, but don’t worry, tax/borrowing will come down in five years’ time”. Given that borrowing would be starting from a high baseline, it could also mean that much of the proceeds of growth in the later years of the cycle would have to be devoted to reducing the extra borrowing of the first few years of the cycle, leaving little room to reduce taxes.
- Regardless of whether policy is based upon the economic cycle or not, if the Tories win an election and are faced with a slowdown next year, they will still have to decide what to do in that year – allow borrowing to increase, or raise taxes. Both are unpalatable choices. If the Conservatives had not pledged to spend the same as Labour, they would not have to potentially make that choice.
- The Conservatives used the stability argument to justify their refusal to make upfront commitments to reduce the overall burden of tax, saying that they couldn’t know what the state of the economy would be when they came to power. By the same logic, they should not have made upfront spending commitments.
Overall, though, three cheers for George Osborne and David Cameron. They have come a long way towards meeting the concerns of taxpayers.