BUDGET REFLECTIONS
Labour won a loveless but decisive majority in the UK general election in July promising to be “stable and boring”. Their budget was both and neither. They also said that they would “..not increase taxes on working people, which is why we will not increase National Insurance..” [source: Labour 2024 manifesto]. That did not happen either. However, identifying politicians of any hue sticking to their manifestos is a niche pastime so this should be no great surprise. We could also note how the rules relating to constraining government debt, when inconvenient, have simply been changed to be more accommodative. But even this would involve reflecting on the many times this sleight of hand has been undertaken in the last few decades. To mix up tracts of philosophy we should be stoic here; Nietzsche said it well, “If you spend your life thinking someone has ruined your life and you are full of resentment, you are right. The person who has ruined your life is you”.
Going into the budget it was clear that Labour had ambitions to boost public sector spending. They really really want to be a “tax and spend” government but equally vehemently do not wish to be thought of as one. There was widespread expectation of tax rises despite Labour party protestations and carefully worded deflections.
The size of them was not, nor was its base simplicity; a big rise in National Insurance that will be delivered directly to the NHS. We all went into the budget expecting tax rises and Rachel Reeves had clearly eaten her Weetabix. The tax rises in aggregate equated to £40bn (c1.6% of 2023 GDP, based on ONS data).
Labour desired the theme of this budget to be taxing wealth whilst protecting working people. We can add their difficulty in defining “working people” to their long standing inability to define what a woman is (see press reports over the last two years). As for “protecting working people”, this is obvious nonsense. The impact of taxes is broader than on those who seem to pay them. Taxing employment is an indirect charge on employees and consumers, it is they who ultimately pick up the bill.
There is some detailed work to be done on understanding the impact of some of the measures, but this paper is more to consider the direction of travel of this budget. What it reveals about the underlying intentions of a party that may be governing us for some time. Overturning majorities of this scale is a low-frequency outcome – it is rare – and we may have many more Labour budgets in the coming years. So what does this budget reveal?
LABOUR OUT OF THE CLOSET
Despite coy demures, and blushing denials, Labour’s not remotely believable front of fiscal probity has been tossed aside with relish. Whilst it is easy to criticise the mendacity, the UK (and most of the developed world) faces some extremely difficult funding contexts because of the ageing population placing more strain on the state with fewer taxpayers to support it. Yes, we would maintain that some choices by the current and historic governments have made the situation worse. We would also venture that the policy responses presented in the budget are sub-optimal, but the challenges that the government faces are structural and real. It is possible to maintain both positions at once: that the NHS is an unmanageable mess, and that the demands placed upon it by our ageing society are acute.
What is clear is this government’s response to this challenge: simply throw more money at it. They have not, and likely will not, attempt to reform the NHS. It is very firmly in the bucket labelled “too hard”. This may seem nihilistic but it is defensible in the context that there are no organisations with 1.5 million employees (with the complexity and subjectivity of what it is trying to achieve) anywhere else in the world in human history. Walmart or Foxconn of the Indian Railways may employ marginally more people today but they have simple objectives and clear data on progress. The NHS has neither. For further context the working age population of the UK is 37.5m. 23% – nearly one quarter – of the working age population is on permanent disability benefit (mostly “stress”) – another bitter legacy of government incompetence. So that is 1.5m of an (actually) working population of 29m. One in fifteen workers in the UK work for the NHS. [source: NHS England Workforce statistics July 2024.]
When assessing a portfolio or a fund it is a crucial precondition of success that the manager would buy all of the holdings today if they had to start again. If you hold an asset that you would not buy today, then you should sell it today. If you were starting a national health service you would never dream of creating this beast we have before us. The current NHS is the product of endless political intervention over generations and does not seem resolvable without a zeal for reform and a willingness to confront difficult choices that no current politician possesses. The national spending on the NHS has risen sharply in this budget and we must expect future rises to exceed the rate of inflation. This budget is the start of a tax raising process, not the end of it. Critics of government policy who have long argued that the UK is a health system with an island attached will be having nightmares for years. That the amount of tax raised will need to increase does not mean that taxes have to go up. The Chancellor’s numbers are based on modest levels of growth in the UK economy, which on one hand we should weep for, but it also means that should that growth be achieved then no future tax rises will be required. Should growth disappoint or funding costs increase or indeed any negative event transpires then Labour’s desire to restrict the tax raises to its first budget will be undermined.
LABOUR HATES DEATH
In a sense, so do we all, but we are referring to two dimensions here. Firstly, that the majority of the additional taxes raised are to be pumped into the NHS. As discussed, no conditions were attached and no reforms required. Some of the spending will be on infrastructure, but Labour governments are not renowned for their gimlet-eyed obstinance when it comes to public sector pay reviews. It took less than three months for this government to reveal that it is demonstrably born from the same traditions, so we can expect most of the taxes raised to simply pay NHS workers more, and by extension, increase the already colossal pension liabilities. It is worth reminding ourselves that after 14 years of Conservative governments every single public sector defined benefit pension scheme (the unaffordable sort that died out in the “real” world in the 80’ and 90’s) remains open for new members. This is to their eternal shame. Labour will not acknowledge this consequence much less address it.
Secondly, one of the major themes to emerge from the budget is not to die with wealth; the government will punish you for it (or at least your beneficiaries). The changes to pensions and Business Asset Disposal relief (BADR, the new acronym for what used to be known as BPR), have sharply increased taxes on assets at death.
In a budget speech that lasted 90 minutes it took them 29 words to say that pensions will now be subject to inheritance tax.
“We will close the loophole created by the previous government, made even bigger when the Lifetime Allowance was abolished, by bringing inherited pensions into inheritance tax from April 2027”.
The scale of the change is not reflected in the quantity of the words. There are also some interesting challenges that emerge. If you inherit a pension and you are required to pay inheritance tax (IHT) then (currently) withdrawing funds from the pension will trigger income tax charges as well. Trebles all round for HMRC on this one.
The assets that now fall within the scope of inheritance taxes (family businesses and farms) means that there will be a material increase in giving assets to individuals or trusts before death, allowing the seven year rule to gradually diminish the liability. Dying wealthy is tax maximising. Here we should caution that, on the direction of travel of this budget, that potentially exempt transfers may be considered fair game for future tax rises.
DRY TAX AGE
Governments have hitherto long shied away from trying to tax assets that are illiquid, because they are “dry” taxes; where a tax becomes liable without any cash proceeds. The reason for this historic reluctance is because they seem unfair – Grannies kicked out of family homes to pay care fees, families forced to sell businesses they’ve been running for generations, farmers thrown off the land to pay the taxman. Rachel Reeves is clearly made of flintier material.
One note of caution; now this barrier has been breached it becomes tricky to try and justify why inheritance taxes on family businesses and farms are not in line with other assets. If illiquidity is no barrier to taxation and inheritance tax is due then why should there be a different rate of tax for owning shares in one company than for owning shares in ten companies? Why should buildings be subject to the full IHT exposure, but the land they sit on not be? Equalising the taxes across all asset classes is a substantially smaller philosophical step than imposing dry taxes. This may well not be the final position.
LABOUR’S FRIENDS
What this budget reveals is a clear preference for three things: the NHS, public sector workers and working people (as long as they do not earn a lot). This budget also shows that if you are outside this triumvirate you are low-status. This is an unpleasant attitude for any government to have, but it should be noted that the preceding Conservative governments resembled the political wing of Saga for their consistent preference for the old and retired over the young and working. While the general population may dislike this political favouritism, the Conservatives can hardly complain.
In this group of outsiders are concepts such as economic growth and fiscal discipline, and the top 5% of earners. Labour promised to leave income taxes at the same level, and they did, though by freezing the thresholds for another four years millions more will be shunted by inflation into higher tax brackets despite no increase in real wealth or earnings.
The top earners will not pay a higher rate of income tax but they will be punished in other ways. The hidden truth is that while everyone knows that the top 1% of earners pay a hugely disproportionate percentage of the income tax raised, this small group also pays pretty much all of the inheritance tax and capital gains tax. These two taxes may seem small (in the amount they raise) relative to income tax, [£19.5bn v £283bn source: Gov.uk 2024] but the raises in these taxes in the budget are targeted at those top earners with precision.
Labour’s 2024 manifesto objective was to “kickstart economic growth” with plans to “deliver economic stability with tough spending rules” and “a new partnership with business to boost growth everywhere”. This budget is inconsistent with those aims. The Government has already revealed a desire to increase public sector pay, and to markedly increase the size of the state. In addition, the changes to BADR are in clear tension with the stated aim of promoting growth. The budget will decrease the rate of growth because it is directly taxing the activities that lead to it.
Consider the minimum wage. Why raise it by 6.7% when inflation is below 2%? Employers not only have to fund the national insurance increases but also this compulsory wage rise. This does not just affect those on minimum wages, other higher paid jobs will experience similar wage rises to maintain the right differentials. This is an expensive budget for employers, which in short order will become expensive for employees who will experience lower future pay rises and job losses.
The only conclusion that can be drawn is that building a bigger state is a higher priority to the Government than growing the economy. Whether you believe this is the right thing to do is a political choice about which we make no comment.
However, we would make one final subjective observation about the budget – that it had a quality that was absolutely in line with one of Labour’s stated goals – it was terribly boring. Not because of its length, though it was lengthy. The budget was called “bold” by its supporters, but simply hiking up NI and other taxes to pay more to the NHS is hardly novel. There was nothing imaginative in the budget. No reforms or even different perspectives on offer. The Government needed to raise more money, but it didn’t explore new ways of doing so, it just used the old tools. For example, there are strong arguments in favour of a land value tax because of its efficiency and that it does not distort or discourage beneficial economic activity. They could have looked at property taxes to encourage building (and undermine some of the planning constraints). The funding of local authorities has been a mess for decades, no mention of it here.
The budget was not a reforming budget and was not radical in any dimension other than the increase in taxes and spending. It has set the tone for the forthcoming Labour administration and provided insights into the driving philosophy behind the manifesto slogans.