Despite the Tory’s hard talk on deficit reduction the reality is that progress has been hampered by the coalition’s bargaining (with the illiberal Lib Dems), which ring fenced welfare, the NHS and pensions from the ravages of austerity. Nearly all the cuts imposed in this Parliament have been born by spending departments that receive less 40% of the entire public sector budget. There have been some interesting results – less spending on police has reduce crime, less spending on “enterprise” has helped growth take off, lower spending on Europe has made Europe even less popular and a huge increase in international aid has seen our stock in the world fall dramatically!
This austerity ring fence means that we are only half way through the process of deficit reduction with more to come over the next five years, we are still adding £80bn to our national debt every year. The other major reason that the deficit has remained stubbornly high is that tax receipts have been anemic - As the chart below shows:
Since 2007 cumulative inflation in the UK has been 26% whilst tax receipts have risen only 7% so the real tax take has fallen by some 19%, a catastrophic decline! Why is this?
• In terms of share there has been a slight decline in income tax, this is because of a £10bn of tax cut (lower personal allowances) - the tax free allowance (what you earn before income tax kicks in) has increased from £6,000 to £10,000.
• Although there has been a big increase in employment this has been at the bottom end of the salary scale, where little or no tax is paid
• Companies systematically avoid taxes on profits
David Cameron has now set out his stall for the next election by focusing his Party on tax cuts for those on middle incomes! He needs to make this promise as the Tories, in this parliament, have funded much of their austerity programme by taxing middle income earners (their core vote) and there are now about 5 million people (up from 3 million in 2010) who pay tax at the 40% rate – in fact you only have to earn £31,000 a year to be a higher rate tax payer. The problem for Cameron is that this “promise” to raise the threshold from £31,000 to £50,000 will have to wait until the public finances are in surplus. As it will be impossible to convince anyone in the UK that higher borrowing to fund tax cuts for the "rich" is a good idea; so the Tories need to find a way of generating more tax revenues – while still reducing income tax! This creates a great opportunity to reassess the tax system in the UK, which is in bad need of modernisation, and to create some clear water between the Tories and all other Parties in the UK.
|Standing in clear water - a liberal Democrat - without socks on!|
To deliver their income tax cuts, without piling on more government, the Tories will need to deliver a wholesale review of our tax system in particular:
• They should replace corporation tax with a levy on companies that relates to turnover not profits, and turnover should mean all sales attributable to the UK market. This would force every company to make a contribution to the exchequer where ever they are domicile, forcing “unprofitable” companies to compete fairly with those that have to make a profit. As an example Amazon tell us that they do not trade at a profit in the UK and pay non corporation tax, but Amazon uses its vast financial resources to drive independent retailers (who have to make profits) to the wall. The overall level of this levy should raise about 10% of all taxes up from the current 8% but no great than the share raised from business in 2007.
• On income tax we need a simpler system that encourages work and enterprise but ensures that those who have been successful in the UK share their wealth appropriately. There should be two bands of tax only with a tax free allowance set at £12,000 (£1,000 a month). The lower rate should be at 20% up to £80,000 and above this the rate should rise to 40%. Tax on capital income (dividends and interest) should be at a standard rate of 30%. This reduce taxes on income to about 50% of all tax and would leave a gap in revenue of about 10% that be filled through cuts in government spending and an increase in VAT.
• An increase in taxes on expenditure (VAT) from 20% to 25% would plug the half the gap caused by income tax simplification. The good thing about raising sales taxes and reducing income taxes is that it gives consumers the choice of what to do with their money. One of the bi-products of this shift would incentives for savers, which has got to be good news as savings rates in the UK are amongst the lowest in Europe at about 5% of household income. In countries where sales taxes are higher - Sweden (25%), Norway (25%), Portugal (23%) and Belgium (21%) rates of saving are often double the UK rate.
The tight corner that that Cameron has painted himself into on tax may actually be good news as tax reform will be inevitable if he is to make good on his promise to reduce income tax and ensure that all companies pay a fair share. The only problem is that he will need to find a new Chancellor as George Osborne has shown no appetite for this type reform, content to tinker with the legacy handed to him by Gordon Brown.