Read more in-depth analysis of this year's Budget in Prospect
Today's Budget is notable for its contrasts. It is politically important as the Chancellor prepares his party for next year's General Election and reassures Conservative MPs calling for tax cuts. Fiscally, as the Chancellor never tired of saying, there is no money to share around. Caught between Conservative MPs calling for tax cuts and the fiscal reality of a £108bn budget deficit, the Chancellor's rabbits were a tax cut for savers and another boon to pensioners.
An overhaul of the pension regime introduced flexibility and options for pensioners about to draw from their savings in retirement. That move is welcome and should prevent retirees from being saddled with annuities at extremely low rates if they retire during a recession. The government has also sensibly recognised that the extra flexibility will need more engaged consumers and require all retirees to be provided with free advice on managing their retirement incomes. It remains to be seen how the costs of providing that advice will be shared.
As predicated, growth forecasts for the next year were revised upwards and the UK economy is expected be larger by the end of this Parliament than it was in 2008. Importantly for the Government's fiscal credibility it found that the targets it set itself in 2010 will be largely met: There will be a structural budget surplus within five years and debt will be falling by 2016/17, one year later than the target specifies. The latter target was breached in 2012 so the Chancellor will be happy to see his fiscal credibility burnished ahead of the election.
A fiscally neutral Budget demonstrates that Osborne has sensibly recognised the continued fragility of the public finances. However, he appears to have ignored his own advice to the Shadow Chancellor to "learn the lessons of the past". Surpluses have been projected in 22 of the 26 official forecasts since 2002 but the budget has remained in deficit the entire time. Osborne will need to announce a far stronger framework for fiscal management in December if he is to meet his fiscal targets. A strengthened OBR with greater powers to hold the Chancellor to his promises is one possibility.
The lack of headroom for serious tax cuts has left only tinkering around the margins in this Budget. Surprisingly, given the calls for changes in the 40p threshold from his backbenches, Osborne has preferred to make his major changes in the personal allowance. The increase in the personal allowance from £9,440 today to £10,500 next year will drop 1.5m people out of the tax system entirely and cost about £1.8bn per year. That will be compensated for largely by allowing a third more people to creep into the 40p tax bracket over the course of this Parliament as incomes rise.
These changes allow the Chancellor to claim that he is both helping the poorest in society and compensating for the “squeezed middle-classes.” The Chancellor is right to worry about wage earners: official statistics released yesterday show that real pay is still falling despite the recovery in GDP. But the increase in the personal allowance is poorly targeted at those most in need since it has no impact on those earning under the previous threshold of £9,440. The vast majority of the cut will go to people with incomes above £10,000. It also reduces the size of the tax base, which means more tax being paid by fewer people.
It is tempting at Budget time to focus only on the forecasts for the next five years but an important perspective is provided by the OBR's long-term forecasts. In July they observed that this Government's plans for reducing the deficit are only a sticking plaster and cannot solve the greater malaise. Before the crisis a debt level exceeding 40 per cent of GDP was considered dangerous. To achieve that level again the Chancellor would need to cut over £19bn more from budget, on top of the currently planned consolidation.
The culprit is demographic change: an aging population will cause long-term care costs to double as a proportion of GDP over the next 45 years, healthcare costs to rise by 9 per cent, and the cost of the state pension to increase by 40 per cent. The Chancellor's response to the increasing cost of welfare is a cap on spending: welfare expenditure will be capped at £120bn in 2015/16 and will thereafter rise only with inflation.
Unfortunately, the cap excludes the state pension, which accounts for nearly half of welfare expenditure. In addition, the Chancellor announced special bonds available only to people over 65 and paying well over the market rate and cut tax rates on pension withdrawals. Those changes should cement the position of pensioners as the only group in the UK to experience rising incomes throughout the recession.
Today's Budget was remarkable for the reforms to the state pension and the Chancellor should be applauded for maintaining his restraint in the face of calls for tax cuts. Unfortunately, his tinkering with tax cuts and giveaways have not moved the UK any closer to long-term fiscal sustainability.
Today's Budget is notable for its contrasts. It is politically important as the Chancellor prepares his party for next year's General Election and reassures Conservative MPs calling for tax cuts. Fiscally, as the Chancellor never tired of saying, there is no money to share around. Caught between Conservative MPs calling for tax cuts and the fiscal reality of a £108bn budget deficit, the Chancellor's rabbits were a tax cut for savers and another boon to pensioners.
An overhaul of the pension regime introduced flexibility and options for pensioners about to draw from their savings in retirement. That move is welcome and should prevent retirees from being saddled with annuities at extremely low rates if they retire during a recession. The government has also sensibly recognised that the extra flexibility will need more engaged consumers and require all retirees to be provided with free advice on managing their retirement incomes. It remains to be seen how the costs of providing that advice will be shared.
As predicated, growth forecasts for the next year were revised upwards and the UK economy is expected be larger by the end of this Parliament than it was in 2008. Importantly for the Government's fiscal credibility it found that the targets it set itself in 2010 will be largely met: There will be a structural budget surplus within five years and debt will be falling by 2016/17, one year later than the target specifies. The latter target was breached in 2012 so the Chancellor will be happy to see his fiscal credibility burnished ahead of the election.
A fiscally neutral Budget demonstrates that Osborne has sensibly recognised the continued fragility of the public finances. However, he appears to have ignored his own advice to the Shadow Chancellor to "learn the lessons of the past". Surpluses have been projected in 22 of the 26 official forecasts since 2002 but the budget has remained in deficit the entire time. Osborne will need to announce a far stronger framework for fiscal management in December if he is to meet his fiscal targets. A strengthened OBR with greater powers to hold the Chancellor to his promises is one possibility.
The lack of headroom for serious tax cuts has left only tinkering around the margins in this Budget. Surprisingly, given the calls for changes in the 40p threshold from his backbenches, Osborne has preferred to make his major changes in the personal allowance. The increase in the personal allowance from £9,440 today to £10,500 next year will drop 1.5m people out of the tax system entirely and cost about £1.8bn per year. That will be compensated for largely by allowing a third more people to creep into the 40p tax bracket over the course of this Parliament as incomes rise.
These changes allow the Chancellor to claim that he is both helping the poorest in society and compensating for the “squeezed middle-classes.” The Chancellor is right to worry about wage earners: official statistics released yesterday show that real pay is still falling despite the recovery in GDP. But the increase in the personal allowance is poorly targeted at those most in need since it has no impact on those earning under the previous threshold of £9,440. The vast majority of the cut will go to people with incomes above £10,000. It also reduces the size of the tax base, which means more tax being paid by fewer people.
It is tempting at Budget time to focus only on the forecasts for the next five years but an important perspective is provided by the OBR's long-term forecasts. In July they observed that this Government's plans for reducing the deficit are only a sticking plaster and cannot solve the greater malaise. Before the crisis a debt level exceeding 40 per cent of GDP was considered dangerous. To achieve that level again the Chancellor would need to cut over £19bn more from budget, on top of the currently planned consolidation.
The culprit is demographic change: an aging population will cause long-term care costs to double as a proportion of GDP over the next 45 years, healthcare costs to rise by 9 per cent, and the cost of the state pension to increase by 40 per cent. The Chancellor's response to the increasing cost of welfare is a cap on spending: welfare expenditure will be capped at £120bn in 2015/16 and will thereafter rise only with inflation.
Unfortunately, the cap excludes the state pension, which accounts for nearly half of welfare expenditure. In addition, the Chancellor announced special bonds available only to people over 65 and paying well over the market rate and cut tax rates on pension withdrawals. Those changes should cement the position of pensioners as the only group in the UK to experience rising incomes throughout the recession.
Today's Budget was remarkable for the reforms to the state pension and the Chancellor should be applauded for maintaining his restraint in the face of calls for tax cuts. Unfortunately, his tinkering with tax cuts and giveaways have not moved the UK any closer to long-term fiscal sustainability.
