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 UK Pre-Budget Report 2004 : Gordon Brown
Analysis

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December 12th 2004

Click here for Budget 2006-2007

PRE-BUDGET REPORT 2004
“YET ANOTHER ELECTION MANIFESTO?”

Key Points

This PBR contains so many voter friendly proposals that it would be the Government’s election manifesto, were it not so vast and turgid. The printed paper alone weighs in at 6lbs 3 oz, (2.8kg) and includes 9 documents totalling 688 A4 pages. Is the intention to bore us into voting for them, or just to add to global warming?
It also includes so much that could be part of the normal Spring Budget that it is not a Report but almost a second Budget. Two bites at the cherry each year is one too many.
Many figures continue to be grossly manipulated to produce the desired result in relation to self adopted or EU objectives and much space is devoted to justifying the results. The method is first “define” your objective in the most convenient way and then ensure its measurement fits the objective. Finally continuously assert that you have achieved something wonderful. The Chancellor is nothing if not consistent in his approach. In consequence all targets and objectives are met in the terms set out, whatever the real situation. Only one appears real, namely GDP growth where our benign economy continues to perform no matter what is thrown at it.
A future Chancellor could save a good few £ millions just by reverting to a single short clear document and win plaudits by concentrating only on managing the economy and finances.
Instead much time and huge amounts of expenditure are devoted to trying to constantly manipulate us towards a socialist utopian ideal where everybody is made into a state supplicant if they are not already part of the public sector employment vote. At new MIG levels the lesson is clear, only the well off should save long term as everybody else loses benefits.
Add in the current extreme authoritarian security measures of doubtful utility and the bureaucratisation of every detail of life largely through gold plating the avalanche of EU directives and the death of liberty let alone freedom is taking place, slice by slice. Along with it will go much of our society, as when the State takes over nobody has personal responsibility and many behave accordingly.
There is the usual drizzle of depressing detailed tax increases slightly offset by inflation adjustments for individuals and on employers NICS.
There is also an array of headline grabbing proposals, some populist fending off council tax inflation, some opening potentially bottomless pits.
There is also a strange feel of unreality to the whole exercise as though it is an Alice in Wonderland world that could quickly unravel with a change of circumstances.

Tax and Expenditure Measures:

No overall tax figures can be given as significant items are not costed. Personal Taxation rises by £200mn in 2005/6 and by £560mn in 2006/7, but uncosted items such as raising the upper limit for NICs and adjusting income tax allowances could swamp them. Indirect Tax rises by an estimated £2,060mn in 2005/6. Business Tax increases by £315mn for costed items in 2005/6 and by £660mn the year after.
Expenditure figures are also muddied by uncosted items but the rest show increases of £590mn in 2005/6. One item, the 10year childcare strategy, balloons from £30mn next year to £600mn by 2007/8.

The Budget Balance:

The change towards an apparent peaking out in the growth of deficit financing first shown in the 2004 Budget is continuing with only a modest further increase in the net borrowing requirement projected for this year. The revision of 2003/04 figures now results in a sharp fall for that year.
From the current year forward government is projecting tax rising faster than expenditure and a slow squeeze on the deficit.
This all keeps the deficit within the EU Stability Pact rule of 3% of GDP, except for last year, and just meets the golden rule of only borrowing to finance capital expenditure taken over the economic cycle.
As with any targets or objectives it is all in the measurement. It is well known that tax and expenditure are massaged down by the treatment of tax credits, taxes obtained by the EU and payments from them, along with very large off balance sheet funding via PFI, Rail and GLA.
There is also no clarity concerning public sector pension liabilities. No details are given of annual public sector pension costs, except an accounting adjustment of minus £22billion titled “Pensions”. It is unclear what this adjustment is. A recent independent estimate produced a liability of ca. £430billion for future public sector pension payments, but there is no balance sheet in which to include this liability. Government has now tabled proposals for dealing with public sector pensions including raising the retirement age to 65 for bureaucrats. Let us hope the results are better than the destruction of many private sector pensions caused in large part by the Chancellor’s £5billion a year extra tax-take.
Meeting the “Golden Rule” of only borrowing to finance investment depends on the above manipulations and also the choice of when the economic cycle begins and ends.
The following figures add back tax credits and EU taxes and payments, but cannot deal with the other factors so do not give a total picture.
A striking feature of taxes and expenditure is that both are running well below earlier projections. In 2004/5 taxes are down ca. £10billion on the Budget figures and expenditure down £9billion. This is despite the windfall of several £ billions in extra tax through high oil prices. The general explanation given is lower inflation, but this seems only part of it.

 

 

Taxes etc., Expenditure and their Balance
£ Billion including inflation

 

 

2003/4

2004/5

2005/6

2006/7

Taxes and
Other income

 

428.2

458.6

495.1

528

% change

 

+4.3

+7.1

+8.0

+6.6

Expenditure

 

463.0

492.9

528.6

557

 

 

 

 

 

 

Balance or Net Borrowing

 

 

 

 

 

PBR 2004

 

(34.8)

(34.2)

(33)

(29)

%of GDP

 

3.1

2.9

2.7

2.2

Budget 2004

 

(37.5)

(33)

(31)

(27)

Budget 2003

 

(27)

(24)

(23)

(22)

Budget 2002

 

(13)

(13)

n.a.

n.a.

           

Based on the above figures and money GDP forecasts tax take is almost 39% of GDP in 2004/5 and expenditure almost 42%. By 2006/07 the figures rise to over 40% and 42.4% respectively. On these figures public sector borrowing withers away, if you can believe it. It is as usual all on a knife edge dependent on the economy, although taxes can always be increased further and some expenditure deferred. The very latest figure of £9.4billion of public sector borrowing in November 2004 after over £10billion in September throws more doubt on the projections.
The IMF report on public finances praises the Policy Framework but spots that actual Policy does not match it. It indicates that a reduction in borrowing of £12billion per year, 1% of GDP is required from 2005. This needs tax to rise equivalent to ca. 2p on standard rate tax to 24p or a halving in current net public investment. This nudge is most helpful to the Chancellor for after the election.

The Economy:

This PBR retains the overall UK growth forecasts for 2004 and 2005 first adopted in the PBR of autumn 2002. They show a benign economy as follows:

UK GDP
Annual percentage change

2003

2004

2005

2006

2007

actual

part forecast

 

forecast

 

2.3

3.25

3to3.5

2.5to3

2.25to2.75

The 2004 figure is at the mid-point of the forecast range. Underlying these forecasts is some continuing spare capacity in the economy. This is supported by the inflow of young immigrants from the new EU member states added to those from elsewhere. The pronounced recovery in world wide growth and trade also supports it, as does continued rapid growth in public and private expenditure financed by borrowing and a recovery in business investment. To this is added a concentrated burst of PFI and other public projects starting next year.
The slowdown in 2006 onwards is a soft landing back to trend rates of growth as capacity limits are reached.
There is also no doubt that the UK has greatly benefited from the Bank of England setting interest rates and the £ Sterling. They allow the UK to balance between the sharply oscillating $ and Euro, whilst reflecting our own economic situation. In consequence the UK is 4th in inward investment after USA, China and India.
Independent forecasters on average expect growth to slow a year earlier in 2005 to 2.6%. Underlying their views are the slowing of the economy through 2004 from Q1 at 1.2% to Q3 at 0.4% and the slowdown in borrowing for house purchase that will feed through into other sectors next year. They also put more weight on the risks from the public sector still borrowing heavily at the peak of the boom, high private sector debt especially for overvalued houses, a possible slow down in China, the high current account deficit and wage and price inflation. The IMF also picks up on the risk it sees in very high house prices and the associated debt.

In recent years although the Treasury forecast has proved better on growth there is much doubt about what else is asserted in the PBR. Inflation is frequently stated as low, measured by the CPI now at 1.5%, inflation we all experience is significant, at
over 3% as measured by RPI. There are also many major price increases well above the latter figure e.g. electricity, gas, water, fuel, the cost of house purchase and the notorious council tax. Inflation in earnings, driven by a rise of 4.9% in the 12 months to October in the public sector, has now reached 4.5%, excluding bonuses. This is the target ceiling stated by the Bank of England above which it is over-inflationary. Our inflation has been held back by the fall of the dollar and low cost chinese exports.
The outlook for interest rates is still for a further rise to 5% base rate or more in the next 12 months to restrain future inflation with CPI
inflation expected to reach the 2% target in 2005 and RPI inflation likely to stay at 3% plus.
The striking feature of the present situation is the continued combination of imbalances, high public sector and private sector debt growth and the linked current account deficit. When they start to unwind, normally via a slide in the exchange rate interest rates may have to rise in response when the economy may be quite sluggish. Then our benign economic situation can easily capsize. At present a slide in the £ Sterling would be nicely timed for joining the Euro, if they dare.
So far the Chancellor has won his high stakes bet, thanks to cheap far east imports and the $’s slide and seems likely to until after the election. Thereafter it’s a different world. Then corrective action to ward off capsize can be taken through increased taxation and deferring capital expenditure so interest rates can remain low or start falling.

Construction:

Clearly the main feature for Construction is continued economic growth with only a slow down to follow. Only small increases in interest rates also do not indicate disaster ahead but a further cooling of the housing market. The final important feature remains the continued growth of public investment as follows:

Public Gross Capital Investment

 

2003/4

2004/5

2006/6

2006/7

2007/8

2008/9

 

actual

estimate

 

projections

 

 

£ billion

34

42.1

48

50

53

55

Almost half this years investment is financed from depreciation and asset sales so net investment at £21.7billion is low at only 4% of public expenditure and for an economy with a GDP of ca.£1,177billion frankly pathetic in relation to infrastructure needs, notably for social housing. Of course PFI and Rail has to be added. Net investment, defined as above, is projected to rise to £29mn by 2006/7.

The Measures:

This PBR contains some 29 measures, which were introduced in this document or since Budget 2004. They are grouped, listed and assessed as far as possible below. However the normal inflation adjustments are not costed so no total figures can be given.

Personal Taxation: Incomes, Savings and Assets.

1. Personal and age related tax-free allowances are indexed for RPI as at October 2004. This increases the different categories as follows:
• Single persons allowance +£150, 3.1% to £4,895 saving £33
at 22%. No costing given.
• Age related allowances 65-74 +£260, 3.8% to £7,090 saving £57.20, 75 and over +£270, 3.9% saving £59.40 all at 22%.
• Married couples allowance age 70 to 74 +£180, 3.1% to £5,905 and 75+ also +£180, 3.1% to £5,975 both at 10%.
• Income limit for age allowances rises £600, 3.2% to £19,500
reducing claw-back for those below the new limit.

2. NIC rates remain the same but the start and stop points are changed as follows sharply increasing tax for some:
• Class 1 lower limit and primary threshold +£3 to £79 and £94 and the upper limit +£20 to £630per week, £32,760 per year. This increases tax by £194.48 per year for those at or above the upper limit and by less for those between the old and new upper limits. Those below the old upper limit save £17.16 per year.
• Similar changes are made to limits for other classes of NIC.
No overall tax-take figures are given.

3. The private sector pensions earnings cap is adjusted to raise it to £105,600 by £3,600 (1989 cap) or £5,600 (1987 cap). Tax reduction at 40% depends on age and pension contribution %. In addition the tax-free lump sum has been revised up to a maximum of £158,400. None of these changes are costed.

4. The tax consequences of the Civil Partnerships Act means that for tax purposes registered same sex couples will be identical in treatment to married couples. Tax reduction £10mn in 2005/6 rising to £30mn and £40mn thereafter.

5. As a result of the new pre-disclosure rules for tax avoidance the following schemes are stopped from 2.12.04. The measures include:
• extending the definition of securities to certain insurance contracts,
• tightening rules on securities with restricted conversion rights,
• expanding provisions on benefits from employment related securities,
• use of certain option schemes to acquire or dispose of assets.
Remuneration based avoidance tax-take increased by £200mn in 2004/05 and by £500mn per year thereafter. Capital gains options avoidance tax-take increased by £10mn this year and then by £50mn and £80mn.

6. On ISA’s it is planned, subject to consultation, to extend the higher rate limits of £7,000 shares or £3,000 cash until 2009, instead of the reduction to £1,000 in 2006/7. This latter limit had already been deferred a year since Budget 2004.

7. Plans to align the VAT fuel scale charge with the company car benefit and restore from 2006& the company car tax diesel 3% supplement on new diesel cars. Tax-take increase £40mn in 2006/7 and £100mn in the following year.

Indirect Taxation:

8. The Fuel Duty revalorisation of 1.92p per litre etc. from September has been cancelled as a result of the very high and volatile oil prices and a freeze substituted, but only for this year. Thereafter rates to rise in line with inflation. Instead of gaining £370mn from the frozen fuel tax increase an estimated £2billion to £3billion extra is produced from VAT on fuel in 2004/5.

9. A 20p per litre fuel duty incentive will be introduced for Bio-mass ethanol on 1.1.2005 and a pilot project is to be developed to see how this rebate could be implemented for fuel mixtures containing bio-mass ethanol.

10. Most other items are continued anti-avoidance measures which have apparently been announced before but are as follows:
• Narrowing the duty differential between the main road fuel duty rates and rebated rates by 1penny per litre from 3.12. 2004 to help tackle oils fraud. This is stated as a tax reduction of £80mn in 2004/5 rising to £105mn next year, although it involves increasing the duty on rebated use. There is also ominously a consultation on vehicles using rebated fuel. Farmers, fishermen, airlines and yachtsmen watch out.
• VAT prevention of recovering VAT on the cost of services used to make an incidental financial supply such as issuing or supplying shares mixed with other items on which VAT is recoverable is void. Tax-take up £15mn this year rising to £45mn in 2005/6.
• A scheme is made void to avoid VAT on an offshore scheme for settling UK insurance claims affecting certain non-EU business that incur UK VAT on making exempt financial and insurance supplies outside the EU.
• A VAT grant to Band Aid 20 reduces tax-take by £5mn in 2005/6.
• More on alcohol fraud strategy to improve duty stamps.

Indirect tax-take increases by an estimated £2,060mn in 2004/5.

Business Taxation:

11. Nic rates and rebates remain the same but small adjustments are made to the starting point for relevant classes. No reduction in tax-take is given. Employers benefit from the same £3 per week increase in the lower limit for Class 1 as employees, amounting to £17.16 per employee per year before taking the effect of any increases in earnings into account.

12. Financial avoidance schemes e.g. block schemes by companies to avoid tax on debt securities are being closed from 2.12.2004.

13. The same measure also applies to stripped corporate bonds. Together tax-take increases by £10mn this year and jumps sharply by £115mn and then £150mn in following years.

14. Various schemes are stopped from 2.12.04 that exploit Controlled Foreign Companies and Excluded Countries Exemption. This increases tax-take by £145mn in 2005/6 rising to £200mn the following year.

15. The old chestnut Film Tax Relief appears again with the claim that reforms will increase tax-take by various means by £20mn in 2004/5 rising to £90mn in 2005/6.

16. Various life insurance company loopholes are closed from 2.12.2004. Tax-take rises by £35mn in 2005/6 and by £50mn thereafter. However subsequently the proposal to increase tax on orphan assets to 30% from 10% was dropped.

17. Modernising taxation of leasing i.e. charging tax on the full life of the lease up front is projected to increase tax-take by £65mn in 2006/7 and jump to £170mn in the next year.

18. Finally a review of small firm taxation is to take place.

Those items of business taxes that are costed increase tax-take by £315mn in 2005/6 and then by £661mn the following year.

Expenditure:

19. Social security benefits are inflation adjusted by their relevant indices for 2005/6 as follows:
• Child Benefit +£0.50, 3% to £17per week.
• Working Tax Credit, basic element £50 to £1,620p[a,
couple and lone parent element £50 to £1,595pa,
30 hour element £20 to £660pa, disabled worker element £65 to £2,165pa, severe disability element £30 to £920pa,
50+ return to work 29hrs payment £35 to £1,110pa,
50+ return to work 30+hrs payment £50 to £1,660pa,
• Child Tax Credit family element and baby addition no change,
child element £65 to £1,690pa,
disabled child element £70 to £2,285,
severe disabled child element £30 to £920,
None of this is costed.

20. The WTC upper threshold and withdrawal rates remain the same. The lower threshold is increased by £160 to £5,220 pa at a cost of £140mn in 2005/6 to help poorer families.

21. A 10 year childcare strategy has been adopted. It mostly consists of the following elements at a cost of £30mn in 2005/6 rising to £600mn by 2007/8:
• Sharp increases in the Working Tax Credit childcare maximum as follows: Maximum eligible cost one child +£40, 30% to £175 per week or £9,100 per year and for 2 or more children +£100 per week, 50% to £15,600per year with 70%
of eligible costs covered. Expenditure increase £30mn.
• An increase the WTC childcare element to 80% from 70% from 2006/7. Expenditure increase £130mn per year.
• Extend paid maternity leave by 3months to 9months from 2007/8 with it transferable to fathers and a hope to extend it to a year. Expenditure increase £285mn in 2007/8.
• A variety of other measures to promote the quality and sustainability of childcare e.g. entitlement to free nursery education for all 3 and 4 year olds of 15 hours per week for 38 weeks per year by 2010. Expenditure increase £240mn in 2006/7 falling to £155mn the following year.

22. A £50 bung in 2005/6 is to be given to every household with a resident of over 70 years old, ostensibly to mitigate the cost of council tax and living expenses. This is on top of winter fuel payments. Expenditure increase £260mn for one year only.

23. The Child Trust Fund becomes operational in early 2005 with payments in April. Consultation is to be made on making an additional payment of £250 per child at age 7 with £500 for those in poor families as part of the 10 year childcare strategy. This addition is not costed.

24. Incapacity Benefit pathways to work pilots expenditure is to be increased to 14 more Jobcentre Districts and further help disabled people back to work at a cost of £60mn in 2006/7.

25. The National Minimum Income Guarantee is to be raised as follows:
• Family 1 child, 35hrs work to £258 per week
• Family 1 child, 16hrs work to £199 per week
• Single over 25, 35hrs work to £167 per week
• Couple over 25, 35hrs work to £198 per week
• Disabled single, 35hrs work £209 per week
• Disabled single, 16hrs work £150 per week

26. The National Employer Training Programme and The New Deal for Skills are to be increased at a cost of £10mn in 2005/6 rising to £90mn in the following year and to £185mn by 2007/8.

27. Local Authorities are to receive £1billion to reduce Council Tax rises in 2005/6. However only £150mn is additional expenditure the balance comes from increased flexibility by reduced ring fencing and reallocation of departmental allocations. £1billion if actually spent is ca. 1.5% of local authority expenditure.

28. The Contingency Reserve is increased by £520mn in the present year including £105mn for security measures.

Sources: The Pre-Budget Report and its pack of 8 additional documents, extensive Press analysis and comment and economic data from the B of E and ONS.

Written by A. Lindley 12.12.2004


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last modified: Dec 12, 2004