A vicious leadership contest has culminated with Liz Truss’ accession to the premiership. Promising radical reforms to the British economy, Truss represents a stark contest with the establishment candidate, Rishi Sunak. With pledges to radically cut the state, addressing the struggling supply side of the British economy, Truss represents a breath of fresh air from the establishment candidates of the past.
Tax Reform
The British economy is on the brink: productivity has flat-lined since 2010, and investment has stagnated since the Brexit referendum of 2016. Radical reforms are needed to boost global competitiveness. Since the disastrous vote to leave the EU, corporation tax looks set to rise from 19% to 25% by 2023 – diminishing the incentives to invest in the British economy. The UK ranks 36th out of 38th for how heavily capital investment is taxed – a recipe for productivity stagnation and economic decline. OECD studies regard corporation tax as the most harmful tax for economic growth.
Truss plans to reverse the disastrous corporation tax hike with plans to reduce the headline rate in the future. A welcome move, cancelling the corporate tax hike, should encourage business activity and investment, alleviating potential financial difficulties as firms face rocketing energy costs. While more radical reform is needed, addressing the high taxes on capital investment, Truss’ pledge to not raise corporate tax is a step in the right direction.
Consumption Taxes
Truss similarly will reverse the National Insurance tax rise. Putting more money in the hands of the private sector will produce a more efficient allocation of resources, producing long-run aggregate supply growth and boosting living standards.
Termed as a desperate ‘last resort,’ Truss has also pledged to consider VAT reductions. A highly effective tax at raising tax revenue, indirect taxes don’t suffer from tax evasion and avoidance on the income tax scale. Given that VAT reductions have limited effect on the economy’s supply side, a tax cut should be temporary as monetary policy is best suited to manipulate the demand side of the economy, as a pose to fiscal stimulus that only exacerbates the national debt.
Inflationary?
Myths that Truss’ economic plan will be inflationary are dumbfounded. Fiscal stimulus from tax cuts will be offset with tighter monetary policy – not affect aggregate demand, leaving inflation unchanged. The Bank of England has already suggested it will pursue tighter policies in the event of a Truss victory.
Similarly, tighter fiscal policy from Sunak will not reduce inflation, and sticking to tax increases will be accompanied by a looser monetary policy than otherwise to ensure the Bank of England’s inflation and unemployment target is met. Instead, raising taxes to reduce inflation will choke off the economy’s supply side, limiting LRAS and leaving economic growth worse in the long term; more importantly, this won’t reduce inflation.
Japan is a prime example of this. Decades of fiscal stimulus have produced no nominal output growth – a chronic shortfall of aggregate demand due to the Bank of Japan not being aggressive enough on the monetary policy front. Monetary offset has prevented fiscal stimulus from affecting on aggregate demand to have an inflationary effect – albeit far too tight, choking the Japanese economy into stagnation.
Ultimately, Truss represents a brighter future for the British economy than her predecessor. Reducing corporation taxes and putting more money in the hands of the private sector will boost tax receipts in the long run while promoting long-run aggregate supply growth. Truss’ plans will ensure the British economy doesn’t slip into recession – a far worse scenario for public finances; not a perfect plan by any means, with her failure to get to grips with the growing budget deficit.
Free Marketeer 