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What cost of living crisis? The hype of Conservative hopes for tax cuts is devoid of reality | Richard Partington

BBy the time the Conservative Party manages to elect a new leader, Britain will be either in recession or dangerously close. The cost of living crisis will enter a new, more painful phase with a new surge in energy bills. A difficult autumn is coming, with inflation – already at its highest for 40 years – which will reach 11%.

These are far from ideal conditions for a new prime minister. Yet so far none of the Conservative candidates offer real solutions to the cost of living challenge. Instead, the leadership contest takes place in a parallel universe where the biggest tax cutter is king.

With the tax burden reaching its highest level since Labor’s Clement Attlee was prime minister in the late 1940s and early 1950s, this game of Top Trumps tax cuts is perhaps understandable. The party feels it has gone astray and needs a major reset. However, this is a debate that is devoid of reality.

Among the main candidates, only Rishi Sunak pleads for restraint. The Sunday papers are full of promises of rate cuts for businesses, workers and consumers, with promises worth billions. Taken together, they would eliminate the tax base of a small country. In a big economy like the UK, they would put a serious dent in public finances – something former Tory leaders have told us could turn Britain into Greece.

Tax cuts, big spending, and budget deficits aren’t always bad news if they’re backed by sound economic reasoning. However, planning fiscal policy to woo a select group of mostly affluent Conservative Party members is unlikely to meet the needs of society at large amid the hardest hit by household finances of our time.

Outside this world of imaginary politics, economists warn that some of the tax cuts being considered would add fuel to the inflationary fire and supercharge inequality.

Take VAT: cutting the rate from 20% to 17.5% would cost up to £15billion a year, but would help the wealthiest households the most. Inflation would be fueled by increasing the purchasing power of wealthier families, who were more likely to have accumulated savings during the lockdown. The poorest households, who suffer the most from the soaring cost of living, would benefit the least.

To revive a moribund economy, Sajid Javid and Jeremy Hunt not only promise to drop a planned rise in corporation tax from 19% to 25% from next April – a move that was expected to bring in around £17billion sterling per year – but also go further, with a cut to 15% which would cost billions more.

It’s a demand that even big business lobby groups are not making, and one that two former health secretaries should recognize would have serious consequences for public services.

Britain already has one of the lowest corporate tax rates among wealthy countries, and cutting it to 15% would run counter to the emerging global consensus that a race to the bottom on competition taxation is a zero-sum game. Almost 140 countries – including the UK – agreed to this at the OECD last year, acknowledging that governments lose while footless multinationals prosper.

It is increasingly recognized that global tax cuts are terrible at promoting more business investment. According to a report by the Social Market Foundation, the UK spent almost £100billion with little evidence when George Osborne cut the corporate tax rate from 28% in 2010 to 19% today. Economic growth has remained weak, while levels of business investment have lagged those of comparable wealthy nations.

When companies invest, they do so for more than just taxation, often placing more weight on political and economic stability, as well as other key fundamentals that could benefit their returns – such as local workforce, the quality of infrastructure, and the depth of their potential market.

Business investment has stagnated due to Brexit and the pandemic – and now an imploding political system. It is now almost 10% below pre-Covid levels.

Business leaders will warn this week that the wrong kinds of tax cuts will only make things worse. The Confederation of British Industry, the country’s main business lobby group, will release a report calling for smarter tax policy rather than snappy measures to please the Tory stalwarts.

“We need tax changes that spur investment, not tax changes that fuel inflation,” he will say.

The lobby group is worried about a planned rise in corporation tax to 25% next spring, but has previously suggested it could be offset by a package of tax relief to support business investment. Such a move would be a much smarter way to develop a growth-friendly economic position.

Sunak, the architect of this carrot-and-stick approach to corporate taxation before his resignation as chancellor, used his leadership campaign to exact revenge on the party, saying to himself “heartwarming fairy talesof magical but ultimately reckless gifts.

It’s an argument strikingly similar to Labor’s bitter infighting of recent years, reminiscent of Tony Blair warning the party against comfortable blanketing Jeremy Corbyn’s socialist policies. His argument was that it might seem fair to party loyalists, but it is divorced from mainstream opinion and not what the country needs.

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Sunak is right that cutting taxes in the name of ideological purity is not a recipe for healthy public finances and a strong economy. Where his message falls through, however, is that hard budget constraints must prevail every time. It encompasses a Treasury orthodoxy that should have been abandoned after a decade of austerity. For years it has been recognized that budget deficits can and should be used to cushion economic shocks and support the recovery, if the right fiscal and spending decisions are made.

For Tories, it’s important to remember that where Boris Johnson slammed into the public was over the need to escape austerity and ‘level out’ Britain’s lopsided economy. Leveling up resulted in an electoral coalition spanning the poorer “red wall” constituencies and the more prosperous south. Sudden tax cuts are not the tool to achieve a better balance.

By focusing solely on ideologically driven tax cuts, the Tories miss the point that a more fundamental overhaul of Britain’s economy is needed than an old, tired reboot of Thatcherism.