Chancellor May Need £16 Billion More in Tax Increases to Meet Government Promises: IFS

Commuters on London Bridge in London, England, on Jan. 22, 2024. Victoria Jones/PA Wire

Chancellor of the Exchequer Rachel Reeves may need to raise an additional £16 billion in taxes in order to meet government pledges, the Institute for Fiscal Studies (IFS) has estimated.

The think tank said in its report published on Thursday that this would be needed in addition to the £9 billion in tax rises from measures Labour had set out in its manifesto, bringing the total to £25 billion.

The chancellor has said ahead of the Oct. 30 Budget that there will be “tough decisions” made, but that there would be no return to austerity.

Reeves’s Budget will come within a series of party-imposed restrictions, with the new government committed to avoiding cuts to public services, and while pledging not to raise income tax or corporation tax, or to increase National Insurance and VAT. Taxes are also at a historic high.

The IFS’s report, funded by the Nuffield Foundation and with economic forecasting by investment bank Citi, said that even with Labour’s planned £9 billion tax rise, “achieving current budget balance whilst avoiding cuts to public service spending would be on a knife edge, and highly sensitive to OBR [Office for Budget Responsibility] judgements about growth, inflation and much else.”

‘Things Could Get Harder’

The IFS also warned that “things could get harder over this parliament,” citing OBR projections that the current budget could, by autumn 2028, be in deficit by 1.6 percent of national income or £44 billion in today’s terms.

This would reflect growing financial pressures, such as in health care, while the UK sees tax bases for tobacco duties and fuel duties—with the projected increased update of electric over new fossil fuel vehicles—fall.

“In other words, further tax rises or spending cuts could be required before the end of the parliament,” the think tank said.

Productivity

The report also highlighted the issue with productivity, saying Citi’s analysis highlights the UK’s “dire productivity performance over the last two decades.”

Economic activity is more than one-third (36 percent) lower than it would have been had it continued in line with growth trends before the financial crisis. This compares with 31 percent in the Eurozone and 24 percent in the United States.

This gap in relative performance has also widened since the COVID-19 pandemic era, with UK GDP now 6.1 percent short of its pre-pandemic trajectory, compared with 4.3 percent in the Eurozone.

The IFS said that the UK urgently needs to address its low-growth equilibrium, and that investment would be key. However, Citi said that significant extra borrowing to fund that investment would be risky, due to the UK’s elevated debt levels and current rates of borrowing, meaning that “some additional investment may therefore need to be financed through higher taxes.”

Most Consequential Budget Since 2010

IFS Director Paul Johnson said the first budget of the new administration “could be the most consequential since at least 2010.”

Johnson said that with the constraints Reeves is working within, “the temptation then is to borrow more, perhaps changing the definition of debt targeted by the fiscal rules.”

“But, given her pledge to balance the current budget, that would not free up additional resource for day-to-day spending and in any case is not risk-free given the dual deficits—that is, both budget deficit and current account deficit—being run by the UK,” he said.

“‘It is easy to think that we face a short-term challenge somewhat artificially created by a particular set of arbitrary fiscal rules. That would be a mistake. Pressures on health and pension spending will continue to increase, and revenues from fuel and tobacco duties will fall. That will make remaining on course for current budget balance harder over the course of this parliament,” the IFS director added.

Responding to the IFS’s report, a Treasury spokesman said that the government had inherited a tough financial position, “but we won’t let the challenges of the past define our future.”

The spokesman said the government was “focused on making this the most pro-growth Treasury in history, built on the rock of economic stability, including robust fiscal rules that were set out in the manifesto. That is how we will fix our public services and deliver on the promise of change.”

PA Media contributed to this report.