No matter the debt – Ukraine crisis calls for tax cuts and increased spending Business

National energy bills are already expected to jump in April, pushing headline inflation above 7%. But the Ofgem cap, for all its flaws, will shield most households from any further increases, at least until October.

There will always be a short-term impact. If oil and gasoline prices remain high, motorists and businesses will have to pay more for fuel, which will inevitably affect other prices.

But energy markets had already priced in many Russian risks, and a combination of sensible contingency planning and warmer weather could soon ease the pressure.

Nevertheless, there is a real threat of a much worse outcome. Prices could rise much further if the flow of Russian energy is seriously disrupted, whether through Western sanctions or Russian retaliation. UK inflation could then peak at an even higher rate, perhaps 8% to 9%, and be much slower to fall. This threat alone could undermine the recovery, especially since consumer confidence has already been shaken by worries about the cost of living and tax hikes.

The second reason why the Ukraine crisis should prompt a rethink is that it is changing the outlook for public finances – and not necessarily for the worse.

Inflation is often assumed to be bad here because it adds to interest payments, both directly (via RPI-indexed gilts) and indirectly (especially if it causes the Bank of England to raise interest rates). official interests or to unwind its purchases of government bonds, more quickly).

But that’s only part of the story.

Basically, the combination of rising nominal incomes and rising prices also means that households and businesses will pay more taxes.

Indeed, so far, the overall impact appears to have been favourable. Between April and January, government borrowing was £17.8 billion lower than the official forecast released by the OBR in October.

Higher nominal growth also reduces the debt burden relative to national income. Net public debt stood at 94.9% of GDP in January, 2.1% of GDP below the October projection.

The downside risks to the economy have therefore increased, but the improvement in public finances gives the Chancellor more room for reaction. He should take it.

It would now be much easier to justify postponing the tax increases planned for April. The economy is facing a new shock that had not been anticipated when the Social Security increases were announced last September. And when households and businesses are already paying more taxes than expected, it makes even less sense to increase their burden.

There’s also a strong case for doing more to lessen the pain of higher energy bills. The government should continue to resist calls for more intervention to manage headline inflation (that’s the job of the Bank of England) or to set individual prices (that should be left to the markets).

But it is reasonable to expect the government to worry about the distributional consequences of high inflation and do more to protect the most vulnerable households. Ideally, this should be done through the tax and benefit system, making work pay and targeting help to those who need it most.

The government has already done a lot of good things here, including reducing the Universal Credit cut rate (although the loss of the £20 hike still leaves a lot worse).

However, the response to rising energy bills has missed the mark. The additional support of ‘up to £350 per household’ includes a £150 council tax rebate, which is not well targeted, and a £200 ‘reduction’ on bills, which is not actually just a loan. I think it would have been better to do more on the Warm Home Discount, increase the amount as well as expand eligibility, and top up Universal Credit again to help cover other costs (this is not just a question of energy).

Policies that simply reduce energy bills for everyone (the French solution) are far from the best. These policies are costly and prevent markets from functioning properly. People who can afford to pay higher energy prices should be expected to do so.

Nevertheless, if energy prices continue to rise, the Chancellor could cut household bills by £200 or more by scrapping some of the environmental and social charges (in particular, the cost of ‘legacy bonds’) and removing VAT of 5 pc. on household energy (even if extending it to Northern Ireland would violate the agreement with the EU). VAT is one of the least bad taxes, and any reduction should be temporary.

But the Chancellor has already reduced VAT on hospitality as an emergency measure. Reducing energy bills would surely be an even better cause.

In short, sound finances cannot simply consist of sticking to rigid plans when circumstances have changed. Sometimes even the most “fiscally responsible” chancellor has to be flexible.

Julian Jessop is an independent economist. He tweets @julianhjessop.

More about this article: Read More
This notice was published: 2022-02-25 18:30:19

Leave a Reply

Your email address will not be published. Required fields are marked *