On the hunt for UK stability
Incoming Chancellor Jeremy Hunt has announced the reversal of almost all the mini-budget measures, in an attempt to stabilise financial markets. All tax measures not already going through parliament have been reversed in a wholesale repudiation of the ‘Growth Plan’ put in place on 23 September.
Only two of the measures – equivalent to £11 billion of cuts – will remain: the reversal of the National Insurance rise and the cuts to Stamp Duty. Cuts in the basic rate of income tax to 19% from April 2023 will take place only when “economic conditions allow for it and a change is affordable”, while cuts of 1.25% to the dividend tax will not come into force from April 2023.
The dividend tax cuts will be a blow for the self-employed, who also saw the rolling back of planned changes to the off-payroll working rules (also known as IR35). The Chancellor said the 2017 and 2021 reforms to the rules would remain in place, which seek to ensure more workers are deemed employees and brought into the scope of PAYE.
VAT-free shopping schemes for non-UK visitors to the UK have also been scrapped, along with freezes to alcohol duty. The cuts to corporation tax and the highest (45%) rate of income tax had already gone. The overall result is to reverse £32 billion of the previous £43 billion in tax cuts.
The Chancellor also reined in the energy price guarantee. Chancellor Hunt said he would announce a Treasury-led review to look at how the scheme should be extended beyond April next year. The scheme had been due to run for two years. He said the Treasury would look at ways that it could cost the taxpayer less while supporting citizens and businesses in greatest need.
What happens next?
The Chancellor’s intervention has brought some stability to financial markets. The pound gained some ground versus the dollar. The 30-year gilt yield, which has become the default measure for confidence in the UK economy, came down by around 0.5% in immediate response to the Budget to 4.4%1.
However, gilt yields are still around 1% higher than they were prior to the mini-budget. It is clear that the UK’s flirtation with a low tax, low-spend economic model has created a longer-term credibility problem that will take time to reverse. While Chancellor Hunt’s measures will help, they cannot undo the damage of the past few weeks immediately.
In his speech, the Chancellor repeatedly referred to ‘stability’, saying that while policymakers could not eliminate volatility in financial markets, they could ensure that the UK’s finances were “on a sustainable path into the medium term”2. He acknowledged that instability would deter the international investors that the Government’s programme of low taxes had hoped to attract: “Growth requires confidence and stability,” he added. Time will tell if markets are inclined to believe him.
The longer term
In the absence of tax cuts, there remains a question over how growth will be generated for the UK economy. Given that personal allowances are not going up in line with earnings, the tax burden on households may be higher than it was prior to the mini-budget. Inflation is still running at around 10% and may not start to roll over until 2023. The recent weakness of sterling will raise the price of imported goods and exacerbate inflationary pressures. This will continue to hold back household spending and constrain growth in the economy.
The Chancellor has not made it clear how many of the supply side reforms – such as changes to the planning rules – will remain in place. However, while confidence and certainty remain low, it is difficult to see how initiatives such as freeports, another pillar of the Government’s growth strategy can attract significant investment. The Chancellor has said the £1 million Annual Investment Allowance, the Seed Enterprise Investment Scheme and the Company Share Options Plan will remain in place. These are welcome but may not move the dial on the UK economy.
UK financial markets
The Chancellor has undoubtedly brought some temporary stability with this significant U-turn. This is good news for holders of UK assets. The situation for the UK economy still looks relatively precarious, but the UK’s bond and currency markets are already discounting a lot of bad news. It is worth noting that UK equities had been less affected, given that many FTSE 100 companies source their earnings globally rather than locally, but even with this in mind, greater confidence in the UK may help close the valuation gap with other markets.
The UK has a long way to go. Its political situation continues to look difficult, and its economic position is weak. However, it may have passed its low point and be on a more stable path.
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