Budget U-turn hammers UK competitiveness

Good morning. Driving the day (to coin a phrase): a huge scoop by my colleagues. Keir Starmer and Rachel Reeves have U-turned on their manifesto-breaking plans to raise income tax rates.

Bye bye Budget

Keir Starmer and Rachel Reeves have abandoned plans to break their manifesto commitment and raise income tax, and will instead look to a series of small tax hikes and changes across the system, the FT has revealed. George, Anna and Sam have the scoop:

Sir Keir Starmer and Rachel Reeves have ditched their manifesto-busting plan to increase income tax rates, in a dramatic U-turn ahead of the Budget on November 26, according to officials briefed on the move. The prime minister and chancellor have “ripped up” earlier proposals to raise the basic and higher income tax rates, officials said, amid fears the move would anger voters and further antagonise mutinous Labour MPs.

The decision to change tack, taken this week, was communicated to the Office for Budget Responsibility on Wednesday in a submission of “major measures” set to be announced by Reeves in her Budget. One person briefed on the proposals said the original Budget tax plan had been ripped up, while a second confirmed the fiscal statement had been rewritten since the first set of measures by Reeves was sent to the UK fiscal watchdog earlier this month.

(All credit to David Sheppard, whose prediction in Inside Politics that Reeves would not, in the end, carry through with breaking the promise, has been validated.)

I don’t think this is a good idea, but I will be brief because I am aware I have been saying this for the best part of three years now.

There is no realistic prospect that Labour can significantly reduce spending for the old. And, because so many of their promises to the country run through providing a better (read: any) standard of state provision to people of working age, taxes are going to have to go up. All taxes in some way hit economic activity, but you can do that through the big predictable levers of income tax, value added tax or national insurance, or you can do it in unpredictable ways which may have outsized economic effects and social consequences you don’t like.

That is part of why Labour’s first year in office has gone so badly, and repeating that experiment is not going to make their second go any better either.

Something new that leaps out to me there is that last sentence — that this change happened between the two rounds of “major measures”. That is essentially the moment when the Treasury shares its plans with the Office for Budget Responsibility, which casts its verdict on whether the government’s view on what their plans will cost and raise add up. As one Conservative, who was intimately involved with Budget preparation under Rishi Sunak, once put it to me, “those are the moments where things get real and where you really realise how hard your choices are”.

Trying to raise a lot of revenue through small tweaks and novel taxes is a risky endeavour at any point, but it surely compounds the potential adverse consequences if so much is happening at the eleventh hour. It’s also worth noting that the UK’s tax system is already overly complicated! Here’s this year’s Tax Foundation international competitiveness index just to give you a flavour.

I’ve written a lot in this newsletter about how the big winners from tax-and-spending changes made from 2010 to 2024 were median earners, and the big losers were anyone in receipt of public services (because the state did less) and higher earners (whose taxes rose, and who in particular are increasingly barred from accessing most state services, be it child benefit, free childcare, and so on). But the other big losers are businesses. There are many positive externalities to the higher minimum wage: but it is, essentially, a cost borne by business that has allowed the government to spend less on tax credits. In addition, we have a thicket of reliefs, cliff-edges and other unnecessary bits of complexity. Our banks pay a higher rate of corporation tax than other businesses — a terrible way to treat something that has long been one of our areas of comparative advantage.

The big political risk to the government in eschewing income tax is that its alternative tax rises prove unpopular. The policy risk is that it hurts growth and our competitiveness and further drives up the cost of servicing the country’s debts. But there’s also an opportunity cost that because we’ve become a country where raising income tax is off the table, our solution is instead ever-greater complexity and shifting an ever-larger share of our tax burden on to businesses.

Now try this

Absolutely delightful Mahler 7 performance on Radio 3 last night, which readers in the UK can listen to here.

However you spend it, have a wonderful weekend!

Top stories today

• ‘He’s played a blinder’ | Some Labour MPs and strategists have spent the past couple of days crooning over Wes Streeting’s performance this week, at the same time as discontent has grown among Starmer’s own ministers.

• Don’t be a drag | One in four employees in England and Wales will be higher rate taxpayers by the end of the decade if Rachel Reeves extends a freeze on personal tax thresholds for a further two years, the Institute for Fiscal Studies has said. 

• Switching tracks | Ministers are debating whether to link rail fare increases to a lower rate of inflation as the government tries to bear down on price growth, according to people familiar with the discussions. 

• Tower Hamlets in trouble | The communities secretary, Steve Reed, is meeting the envoys overseeing the running of Tower Hamlets council as concerns about the governance of the east London authority continue, the Guardian reports. He was “appalled” to learn that two Tower Hamlets councillors, one with Aspire and a former Aspire member who now sits as an independent, were seeking to become parliamentary candidates in Bangladesh.