A hollow budget

Today’s budget is the budget of a chancellor struggling to understand his own economic philosophy and political strategy. Of course, the circumstances are not easy. His inheritance was very tricky and the eurozone crisis has made things worse. Furthermore, David Cameron’s decision to box the government in with a series of ring-fenced spending commitments means that radical reform in many areas is out of the question.

We still await, with baited breath, a reduction in overall government spending. Next year, spending will rise by 2.4 per cent; this year it will rise by 2 per cent. Of course, the brakes have been slammed on in many areas and the total represents a small reduction in real terms. However, households with adults in work are having to reduce their spending faster than the government. Benefit cuts have, in effect, been restricted to working age families.

The huge rise in welfare spending in the first decade of the 21st century has not been reversed and will not be reversed without radical reform of the system. Welfare spending, excluding pensions, rose by 50 per cent from 2000 to 2010 with much of that rise coming while the economy was booming. This is an area that is ripe for serious reform given that over two-thirds of families with children receive means-tested benefits and the vast majority of families with children face effective marginal tax and benefit withdrawal rates of 70 per cent or more. In the absence of reform in these areas, there is no option for the chancellor other than to simply squeeze more tax out of the system and rely on growth and much larger cuts in other areas of government spending to balance the books. And this is the story behind today’s rather hollow budget: “chancellor in self-imposed straitjacket has no room for manoeuvre.”

But, as ever on these occasions, the chancellor has to think of something to say. Deciding not to give a budget speech would not go down well and, given that a budget is to be presented, every effort is made to ensure that there are positive headlines. So, amongst the good news of a reduction in corporation tax (and the welcome simplicity this creates as a result of aligning corporation tax and income tax rates), we have the extension of tax relief for childcare and special tax incentives for private investment in social enterprises, the ceramics industry, high-end entertainment and low-emissions vehicles. All these will have the effect of adding yet more pages to our tax code – already the longest in the world – and creating opportunities for aggressive avoidance.

In addition to this we have a bizarre mortgage guarantee scheme. Perhaps we should just remind ourselves of the causes of the financial crash. Banks in the UK and the US lent money that could not be repaid—in general on mortgages. It is widely believed that this was exacerbated by the belief that banks were underpinned by the taxpayer. In the US, of course, that belief was soundly based given that Fannie Mae and Freddie Mac guaranteed mortgage securitisations. The government has gone to great efforts to reduce bank lending through the use of high capital requirements and to try to ensure that we have legal mechanisms so that banks can fail without taxpayer support. And what happens next? The government introduces a scheme directly providing £12bn of guarantees to house buyers. Guaranteeing mortgages through the back door is out, so we will guarantee them through the front door instead.

This illustrates the core of the government’s problem. There is no strategy or philosophy, simply a series of measures with no common direction.