In one of the interviews she conducted before her Budget speech, Rachel Reeves revealed that she calls Jeremy Hunt for advice. At the time this did not seem to make sense, because Jeremy Hunt’s last Budget was an act of sabotage against an incoming Labour government, a combination of unaffordable tax cuts in the short term and undefined spending cuts in the long term, which were designed purely to make Reeves’s job harder. Calling him for advice is the fiscal equivalent of asking the man who burned your house down to fix your boiler.
It makes a lot more sense now, however, because Reeves’s Budget is straight from the Hunt playbook. Like Hunt, Reeves has shunted most of the pain of fiscal consolidation into the years to come, raiding the future in order to be able to offer some positive news in the present. In Hunt’s case, he offered generous tax cuts while pencilling in austerity for later years (a pain he knew he wouldn’t have to impose, because he knew his party would lose the election). Reeves has offered a Labour version of the same strategy: an extra £11.3bn in public spending, mostly on welfare, paid for by tax rises that start off quietly and then amount to £26.1bn by the end of the parliament. Perhaps she, too, is thinking more about the present than the future.
Both Hunt and Reeves made the numbers work, without too much honking from the public or their parties, using a measure that has quickly become the only game in town: fiscal drag, which pulls more taxpayers into higher bands as their wages rise with inflation, is applied firmly to middle earners. The biggest measure in Hunt’s 2022 Budget was a tax threshold freeze that did the work of a 4p increase in income tax, without causing the furore that would have resulted if he’d announced such a hike. The biggest measure in Reeves’s Budget is another tax threshold freeze that will raise £8bn.
The scale of the tax hike imposed by freezing the thresholds since 2022 is unprecedented in recent politics. Taken as a single policy, it will have raised £66.6bn by 2030, pulling 5.2 million people into paying the basic rate of income tax and creating 4.8 million new higher-rate taxpayers. During the next parliament, the higher and additional tax bands – once the preserve of bankers, doctors and lawyers – will apply to a quarter of all workers. Nurses, teachers, parliamentary assistants, 30-year-old men called Nick – all will be fiscally dragged into the kind of marginal tax rates that previously applied to their managers.
Reeves also applied an even further-reaching form of fiscal drag by raising another £5bn from taxes on pension contributions. The amounts paid by a typical taxpayer in a given year might seem fairly trivial, but the investment platform Hargreaves Lansdown says that a 22-year-old currently earning £25,000 a year and making standard pension contributions will reach retirement with a pension pot that is £57,000 smaller as a result. Another, AJ Bell, says someone aged 35 earning £50,000 a year could face a hole in their pension of £22,060 by age 65. Nicole, 30, will be subject to this form of Huntonomics for the rest of her career.
The other tax innovations in Reeves’s Budget could have uncertain outcomes. A lot of people have just been incentivised (by the “mansion tax”) to hire good lawyers to challenge any council who says their house is worth a penny over £4,999,999.99. Sales of electric cars might fall (in response to a new duty on them), and landlords (who now have to pay more tax on their rental income) might sell up. But fiscal drag, on as many workers as possible, is inescapable. It has become the default way for every chancellor to keep up spending on the expanded post-Covid state.
Two principles have pushed Hunt and Reeves to make blue and red versions of the same Budget. The first of these is that governments are increasingly motivated to accept inflation. Inflation is the tax no one can avoid. It both erodes the government’s debts (or at least those debts that aren’t index-linked) and squeezes higher receipts from taxpayers. And it’s not even technically the fault of the government, because it’s the Bank of England’s job to keep inflation in check.
The other principle is the end of voter loyalty, and consequently a lower risk tolerance among politicians. Another remark Reeves made recently was that she is now the second-longest serving finance minister in the G7; she has been in the job for 18 months. The Hunt-Reeves model is how chancellors must now respond to a consistently volatile electorate. High-risk measures such as raising the basic rate of income tax (last achieved in 1975), or making real and significant cuts to spending, or overhauling the tax system, are seen as unachievable. They feel they have no choice but to make the policy that will best keep them in the job.
The problem with this approach is that measures brought in to pay for a lean period can become permanent. Income tax was a temporary measure, introduced by Pitt the Younger in 1799, and it still has to be renewed each year by parliament. Under the model established by Jeremy Hunt and Rachel Reeves, it’s looking like fiscal drag forever.
[Further reading: How parliament reacted to the Budget]
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