Conservative UK Government Budget Holds Many Surprises

07/10/2015 12:00am

The Conservative victory in the recent UK national election allowed the party to form a government without the need for coalition partners, and to put its stamp on economic policy without the need to compromise. It’s the first time since 1996 that the Conservatives have been able to offer a budget wholly on their own. As expected, the budget released on July 8 by Chancellor George Osborne (the British equivalent of Treasury Secretary) included £12 billion ($18.6 billion) in cuts to Britain’s safety net programs. Among the cuts, the budget limits the child tax credits families can take—currently available for all of their children—to just the first two. And young adults will lose their housing benefits. The budget caps public sector pay increases at just 1 percent a year for the next four years, below the rate of inflation and reducing the living standards of public sector workers. Subsidies for renewable energy were eliminated. Privatization of government assets will raise a record £31 billion ($48.05 billion) over the next year.

But there was much in the budget that was unexpected.

A core conservative value in Osborne’s view is that work should pay enough so that working families won’t need housing allowances or the British version of the EITC to make ends meet. The state, in his view, should not be supporting poverty-level wages. Noting that “Britain needs a pay rise” Osborne directed an increase in the national minimum wage for workers over 25 years of age. Despite the outcry from employers in the retail and hospitality sectors, which account for two-thirds of UK minimum wage workers, Osborne increased the minimum wage from its current £6.50 ($10.08) an hour to £7.20 ($11.16) in April 2016 and £9.00 ($13.95) by 2020.

As was widely expected, the corporate income tax rate will be cut to 18 percent by 2020 from its current 20 percent. There will be a more generous tax credit for investment in buildings and machinery, rising from £100,000 ($155,000) to £200,000 ($310,000) and aimed at small and medium-sized businesses. In a further move intended to increase Britain’s abysmal rate of productivity growth, the budget introduces a new tax on business that will finance an increase in apprenticeships to 3 million over the next 4 years.

These moves were accompanied by a series of measures designed to help the middle class and to make the tax system fairer. The Osborne budget raises the personal income tax deduction allowance to £11,000 ($17,050) and exempts the interest on savings accounts and the first £5,000 ($7,750) in dividend income from taxation, reducing income taxes paid by working and middle class families. Taxes on dividends above this level will depend on the recipient’s tax bracket, with the wealthiest taxpayers facing a 38 percent tax rate. Inheritance taxes for the wealthy were reduced, but the top income tax rate of 45 percent on the highest earners was left unchanged. Tight rules that raise the tax rate on the profit-sharing income of private equity and hedge fund managers—so called ‘carried interest’—from 20 percent to 28 percent will begin to close the carried interest loophole.

Education spending has been frozen and modest increases in health care spending are below the rate of inflation. Both sectors will fall behind inflation and experience cuts in real spending. The Conservatives still intend to balance the government budget in just a few years. And the reductions in welfare benefits will outpace the increase in the minimum wage, hitting young workers, who experience the steepest cuts and are excluded from the higher minimum wage, the hardest.

But the Conservative’s budget is not purely ideological. It has borrowed some of the best ideas from the Labour party’s platform, notably the increase in the minimum wage and the steps toward closing the carried interest tax loophole. Despite giving the Conservatives a clear majority in the election, British voters remain wary of austerity. Treasury Chancellor George Osborne has taken note of this.

Eileen Appelbaum is currently in the United Kingdom, and is a Visiting Professor at the University of Leicester.

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