Labour Government Taxation Policy Is Proving Bad For Business

Brian Durrant - Mon 12 May, 2008

After years of above-trend growth, the UK public finances are a mess and there’s a lack of experience to put it right...

If the Labour party's term in office was a round of golf, it might go something like this. A steady start, some pars, perhaps even a birdie or two. Whenever they were in trouble in the bunker, they somehow still managed to get down in two.

The round was going along reasonably and luck was on their side. Then came a nervous three putt, a ball out of bounds, the confidence began to flag and fatigue started setting in. And it got worse. The ball was 'topped' 50 yards on into the rough, next an embarrassing air shot, then a routine chip was fluffed with the ball shooting across the green at high speed.

At the next tee they didn't know which club to use because they'd been scoring so badly. The wheels on the trolley have fallen off. As any golfer will know, the simple matter of pulling yourself together is easier said than done when your round has turned into a nightmare. This is the position of the Labour government now.

The public finances are in a mess. That's an extraordinarily imprudent feat, given the years of above-trend economic growth. Chancellor Darling was forced in his recent budget to raise planned borrowing for 2008-09 and the next three years by £32bn compared with Gordon Brown's plans in his 2007 budget. And it gets worse...

According to the NIESR's central forecast, the impact of the credit crunch will mean that the Treasury will have to borrow £8bn more than it had planned in each of the next two financial years. Income tax receipts will be reduced by the economic downturn. In particular, hefty City bonuses, which provided a rich source of revenue for the Treasury, are drying up as banks cut staff and remuneration packages. In turn, VAT receipts will be hit as the squeeze reins in consumer spending.

The contraction of the housing market will also reduce Stamp Duty payments.

Meanwhile, after more than a decade of rising consumption and booming house prices fuelled by low interest rates, easy credit and cheap manufactured imports, UK households now face a fall in living standards. This is not an assessment from a sensationalist newspaper, but the governor of the Bank of England. In an uncharacteristically blunt statement, Mervyn King said that rising inflation and the fallout from global economic turmoil would take its toll on the spending power of British households.

Adding to the gloom is a sense that the management has lost the plot. Taxation policy is better when it's not made on the hoof. In the last Budget, for example, the Chancellor and the Prime Minister wanted to be seen to close loopholes that benefited private equity multi-millionaires, but they did so through a rushed change in capital gains tax that threatened regular business owners and employees in share schemes. The rules to tighten the tax rules for the non-domiciled were clumsily handled as well.

The motives behind these tax initiatives show a lack of strategic thinking that runs to the heart of government. It is Brown and Darling's willingness to play games with the tax system if they think it will win them electoral popularity. A good demonstration of this is the furore over the scrapping of the 10p personal tax band. In Gordon Brown's final budget, the Chancellor decided to make a dramatic gesture by cutting 2p off the basic rate of income tax, funded by the scrapping of the 10p rate. At the time this raised an enormous cheer from the

Government benches. Now one year on, when the measure comes into effect, it has become a millstone around the Government's neck.

It is not just the level of taxation that is driving companies and individuals abroad. It is the chopping and changing and endless gimmicks that scare businesses away. It is imperative that the taxation system is stable, clear and predictable with an absence of nasty shocks and abrupt changes in direction. Nowhere is this more evident than in the oil industry, which looks a likely candidate to be clobbered at the next budget.

So why is the Government and the Treasury increasingly prone to errors that make the UK a progressively less attractive place to do business? The blunders outlined above are ones which, in the past, Whitehall mandarins would help ministers avoid.

However, the wisdom of experienced advisors has not been valued by a government which thought it had abolished boom and bust. The average age of Treasury staff today is 34. Eighty per cent of them have only ever worked for Brown or Darling. The current permanent secretary, Nick Macpherson, is 48, while his number two, John Kingman is just 38. The latter was fast-tracked through the ranks after catching Gordon Brown's eye in the press office. It is a sobering thought that Mr Kingman would have been just a toddler when Britain was tackling its previous systematic banking crisis in the early 1970s.

In just over a decade the Treasury has been 'modernised' into a kindergarten of politically correct spin merchants. The individuals may be expert in the art of devising eye-catching initiatives, but they are too politically subservient or inexperienced to give Ministers valuable advice on serious matters. This may explain the extraordinary dithering over Northern Rock.

To return to the golf analogy, Gordon Brown is at the tee and doesn't know which club to use. His inexperienced caddy tells him everything will be fine and hands him a putter.

Regards,

Brian Durrant
For The Daily Reckoning