Jeremy Hunt is preparing to wield the axe over public spending this week and raise taxes for everybody in an autumn statement that will be long on pain and short on good news. After Liz Truss’s short and catastrophic premiership, the “abacus economics” she despised is back in the ascendancy under Rishi Sunak.
The message from the government is that Britain has to live within its means, which Hunt and Sunak say requires action to reduce government borrowing and ensure that the national debt starts to fall as a share of national income.
Failure to do so, they say, will lead to a “black hole” in the public finances that will spook the financial markets and lead to higher borrowing costs for companies and households.
Yet some experts have cautioned that there is nothing inevitable about the new era of austerity Hunt appears to be preparing to usher in, and that there are other ways both of raising money and of keeping the markets sweet.
Is there a black hole?
Many left-of-centre economists challenge the idea of a measurable “black hole” in the public finances, pointing out that its existence is only created by whatever fiscal rules the government has set itself – and that estimates of its size are highly sensitive to economic forecasts.
Economist Jo Michell, a co-author of a paper for the Progressive Economy Forum highlighting the “dangerous fiction” of a fiscal black hole, says the economic backdrop is highly uncertain, making this the wrong moment to draw up concrete plans for spending cuts.
“The sensible thing is to wait and see, for a little bit,” he says. “Things are changing so rapidly: we’re moving into recession, US inflation looks like it may be on the down-slope, gilt yields have come down substantially since the mini-budget and may continue to come down. These are all turning point signals.”
“What we’re seeing is a rush from a £45bn fiscal loosening, with the Truss budget, to a £60bn tightening being floated with the current government,” he adds. “You’re talking about a £100bn swing in fiscal policy, in response to a set of bond market moves that we don’t fully understand.”
Hasn’t the Truss experiment made austerity inevitable?
Proponents of austerity point to the dramatic sell-off in sterling and government bonds, in the aftermath of Kwasi Kwarteng’s tax-cutting mini-budget, as evidence that financial markets are effectively demanding deep spending cuts.
But Michell highlights the technical issues in pension portfolios that amplified the gilts sell-off (prompting the Bank of England to step in).
Other economists have pointed to the wider context of Kwarteng’s statement, including the sacking of the Treasury veteran Tom Scholar as permanent secretary, and Kwarteng’s offhand promise of more tax cuts to come.
Carsten Jung, a senior economist at the Institute for Public Policy Research (IPPR) also warns against learning the wrong lesson from Truss’s mauling at the hands of the markets.
He argues it was fears of surging inflation, as higher government spending fed into demand, that really spooked investors, pushing up bond yields and, in turn, mortgage rates.
“It is portrayed as a fiscal credibility crisis; whereas really it was an expectation that inflation would be higher,” he says, adding that Germany has announced a generous energy support package without being penalised by investors.
Is the government attacking the right target?
Jung is the co-author of an IPPR report setting out the thinktank’s alternative to renewed austerity. The plan – which is conditioned on avoiding rocketing inflation, instead of closing a “black hole” – includes generous spending on helping households through the cost-of-living crisis, and protecting public services from rapid increases in costs.
The IPPR suggests these and other urgent priorities could entail an extra £120bn in spending, much of it temporary. To avoid this short-term splurge exacerbating inflation, they recommend tax increases worth £40bn – which could include reversing the recent cut in national insurance contributions, for example.
Does a doom loop loom?
The former shadow chancellor John McDonnell warns that the current policy mix – with the Bank of England raising interest rates and the government preparing to cut spending – risks exacerbating the economic downturn and leading to a cycle of cuts, weaker growth, a bigger-than-planned deficit, and still more cuts.
“The Bank of England pushing up policy rates, the government introducing austerity – inevitably the result is recession. In technical language, I think it’s barmy,” McDonnell says.
“Even if you accept that there is a gap that needs to be filled, all you need is a relatively mild plan for redistribution, in order to avoid austerity,” he adds. “I think the problem that Sunak and the others have is that they’ve got themselves into an ideological trench, where they’re fighting old wars.”
How about taxing wealth?
Tax Justice UK recently set out proposals for up to £37bn a year in tax increases, as an alternative to what it called “austerity 2.0”.
These included taxing the wealth of the super-rich – anyone with more than £10m in assets – at 1% a year; aligning capital gains tax with income tax, so that unearned income is taxed as heavily as pay; and applying national insurance to investment income.
Or borrowing more?
The political economist and chartered accountant Richard Murphy agrees a wealth tax should be considered, arguing that rich people have the capacity to pay more.
“Alternatively, the government could borrow more. The best way to do this would be by cutting out the financial markets as a middleman. National Savings and Investments already provides the government with £210bn of funding. If interest rates on their products were more competitive they could raise very much more and still lower the overall cost of government borrowing.
“Or, given that austerity is apparently required to keep financial markets happy, the chancellor could call those markets’ bluff and simply say he’ll buy back the bond holding of anyone who is unhappy with the programme of additional spending and investment we need right now using the quantitative easing programme. That would also keep interest rates down.”
