A topic which we periodically address is the design of the UK tax system. What are the desirable features of a well-designed tax system and how must the UK system evolve to reflect changes in the way we live and work? These changes encompass everything from digital services to climate change.
Since we put forward proposals for tax reform to help meet the needs of post-coronavirus UK, the New Economics Foundation (NEF) has published its analysis which quantifies sector-by-sector the tax losses arising from the coronavirus lockdown:
These figures are based on estimates for the year 2020/21 produced by the Office for Budget Responsibility (OBR). They show that the biggest tax losses totalling around £48bn arise from the sectors affected most by the lockdown, namely wholesale, retail, the motor trade and manufacturing. Quite reasonably, the NEF points out that the Government should not be raising taxes during the crisis. The economy needs money in pockets during and in the immediate aftermath, especially the very poorest who most need the cash and are most likely to spend it.
With the UK Government now planning for economic recovery, it has to avoid a trade-off between health and the economy. Nevertheless, planning is required; this will focus on stimulating demand.
Mentioning the use of taxes to stimulate demand immediately brings to mind the 'Laffer curve'. This is a theory developed by American economist Arthur Laffer who argued that, by cutting tax rates, the economy would be stimulated with the result that tax revenues would increase. The theory has been contentious since it was first formulated in 1974. Many of its critics argue that the Laffer curve failed its ultimate test when recent US tax cuts did not, for a range of reasons, deliver their intended benefits.
The UK Government has only one chance to get out its message on the role of tax in the economic recovery from coronavirus. If the Laffer curve is regarded as too risky and unpredictable, then what about short-term tax cuts? They would certainly be welcome. However, the Government would almost certainly shy away from this approach in the knowledge that tax increases would subsequently be required at a time when the electorate might be less susceptible to its message. It’s more likely, therefore, that the coronavirus recovery roadmap will signpost modest tax increases over the medium term 2021-2023.
Tax increases will of course not be sufficient on their own to secure the Government’s objectives. Direct investment by the Government in areas such as public transport, renewable energy and improved housing will be required. At a time when borrowing costs are low, this could be a particularly cost-effective way of getting the UK economy back on its feet, even after the increased Government borrowing to fund coronavirus support to people and business. By creating jobs, by putting money in people’s pockets and therefore equipping them to spend, a carefully judged balance between taxation and public expenditure could go a long way to restoring the British economy to health after the coronavirus has passed. In short, welcome to Roosevelt’s 1930s New Deal for the UK 2020s.