The U.K. government should explore several options if it decides to propose substantial tax increases once the economy has recovered from the coronavirus crisis, economists told the House of Commons Treasury Committee.
Tax will play a major role in restoring the public finances and “ensuring that we have a recovery which is balanced across the U.K. and fair to all,” Committee Chair Mel Stride noted in July as he launched an inquiry into “tax after coronavirus.”
During a committee hearing held remotely on September 1, Stride asked four economists which of the U.K. major taxes the government will “have to be looking to.”
It is probably true that taxes will have to rise, according to Paul Johnson, director of the Institute for Fiscal Studies. “That’s not because of the scale of the deficit this year. . . . The economy, according to most forecasts, will be smaller in four or five years’ time than we were expecting, and therefore tax revenues will be less than expected. Secondly, the pressure on public services will be greater. That, in the end, is a political decision — a decision could be taken to reduce spending rather than raise taxes,” he said, adding that if the government does decide to raise taxes, any increase will likely have to be substantial.
“If you’re looking for substantial increases — say, 2 percent of national income — you probably need to look at the substantial taxes. Getting on for two-thirds of tax revenues come from just National Insurance, income tax, and VAT. So I’d expect, in the medium run at least, some increases in those taxes,” Johnson said.
If the government is seeking to raise revenue in ways that will be efficient and improve the tax system, then it could consider council tax, given that high-value properties are “relatively undertaxed,” Johnson said. He also noted recent press reports suggesting that HM Treasury is considering aligning capital gains tax and income tax rates. Alignment would not raise very large amounts of money, but it would help in the long run “to stabilize the tax system and make it more equitable and efficient,” he said.
The same could be said for moving tax rates on income from self-employment “up towards tax rates on employees,” Johnson argued, reflecting the findings of a discussion paper published in July by the institute’s Tax Law Review Committee.
Extending the VAT base would be politically difficult, but good for the efficiency of the tax system, Johnson suggested. He noted that while pension tax relief for higher earners has been reduced significantly in recent years, it has been suggested that the relief might be limited to the basic rate of tax.
Johnson noted that people over the state pension age who do not pay National Insurance contributions have been protected from some recent tax increases. “There is a case for at least a modest increase in tax on occupational pensions in payment,” he said.
“If you were not politically constrained, and you wanted to raise significant amounts of money quickly, you’d probably want to simply raise the main rates of income tax by a few pence,” Johnson said, adding that increasing the 20 percent basic rate by 2 or 3 percentage points “is not going to do any significant economic damage.”
Gemma Tetlow, chief economist at the Institute for Government, spoke of “problems with the tax system” that distort economic behavior and “may discourage” economic growth. Increasing existing tax rates runs the risk that those distortions are also increased, she said, adding that she would support broadening the base of some taxes instead.
“The large deficit means that you should look really carefully at those parts of the tax system where you’re taxing apparently similar things differently," Mike Brewer, chief economist at the Resolution Foundation, told the committee. “That’s what causes distortions and a reduction in overall economic activity.”
Philip Booth, senior academic fellow at the Institute of Economic Affairs, said that while he does not support increasing taxes, the government might look at the tax regimes of other countries in northern Europe, which raise “a somewhat higher proportion of national income through tax by having a much broader VAT base [and] having people starting to pay tax at lower levels of income.”
Anthony Browne, a Conservative member of Parliament and Treasury Committee member, noted that Chancellor of the Exchequer Rishi Sunak had made temporary stamp duty and VAT cuts to “get the economy going again” in response to the crisis. “If we do need to raise taxes, when should we raise them?” he asked.
“The answer is not yet. We’re only six months into this crisis; we’re not clear about where the economy is going to go, but we are pretty clear that it’s going to be weak for some period. I certainly don’t think we should be looking at tax rises this year, and I’d be surprised if we see significant tax rises next year,” Johnson said.
‘Taxing the Next Generation’
During a discussion regarding the pressures on public spending presented by an aging population, Conservative MP Steve Baker wondered whether the government should avoid increasing the size of the state over the next 10 or 20 years.
“That is a political choice,” Tetlow said. “There tends to be increasing pressure to spend more [on healthcare]. On the social care side, the default is that it falls to individuals to pay for their own social care. . . . The public offer is pretty minimal.”
Baker asked about “the ethical issues” and what it would mean for people on modest incomes if they were told that they need to save to fund their own future healthcare. “Isn’t that pretty tricky ethically?” he asked.
“There are no easy ethical options here,” Booth said. “Promises [in terms of income and healthcare provision] have been made to future generations for which nothing was set aside when the promises were made. You’re in the position of either reneging on those promises, reducing spending in other areas, or taxing the next generation at very high rates. . . . The wrong ethical decisions have already been made, and the question is how you manage this question prudently.”
Tetlow said the challenge is how to “avoid having a generation that effectively paid twice — paying taxes today for health and social care for current older people, and then pre-funding their own care later on.”
The question of how to reform and fund adult social care “has been asked of — and left unanswered by — successive governments,” the Institute for Government and the Chartered Institute of Public Finance & Accountancy said in October 2019. “Over the past decade, as financial pressures on local authorities have increased, this question has become more pressing. Requests for support are increasing, yet fewer adults are receiving publicly funded care,” they added.