Tax changes must trigger business investment, not fuel inflation

The first week of the Conservative Leadership Contest has been dominated by one thing: tax cuts. But is that the solution to the cost-of-living crisis?

The short answer: Tax cuts in isolation might be popular, but don’t address the underlying causes of weak growth – and it’s growth we need to boost the UK’s fortunes.

The longer answer: Look at this economically, rather than politically, and it’s all about promoting sustainable growth, rather than kicking the can down the road. Growth that relies on only government or household consumption is doomed to fail. And measures designed to fuel spending in the midst of inflation will likely feed it and add to the public debt. ?

Back in February, even before soaring costs really made their mark, the CBI’s Director General Tony Danker quoted Elvis, saying the UK was caught in a trap . He argued government couldn’t afford to cut spending, or bring taxes down, while growth remains so low (we’re now only forecast to achieve 1% growth in 2023). He called for more ambition. For the government and business to pursue clear opportunities for greater growth. And he called out the missing ingredient: a focus on business investment, that could be unlocked by smart incentives within the tax system.

Given current high inflation, the same argument carries even more weight today. It’s why Tony reiterated it in an open letter to the leadership candidates .

To explain: tax measures targeted at boosting business investment pose less of a risk for inflation. Although they help boost confidence in the short-term (something we desperately need to keep the economy ticking over), their effect isn’t necessarily immediate. They aren’t about prompting a short-lived spike in spend that can add to the inflation spiral.

Instead, planned well, they translate into economic activity over the year(s) ahead. And that would ensure that any downturn we face is shorter and shallower than it might otherwise have been. Because inflation-driven pay rises can be replaced by those driven by productivity improvements, which are infinitely more sustainable. And because the resultant investment can spark the innovation that can lead to new and better jobs.

The CBI has two examples that it wants the next PM to make a priority. The first, a permanent successor to the Super Deduction that ends in April. It would provide an immediate 100% tax deduction for capital spending and could boost business investment levels by ￡40bn a year. The second, a fundamental and urgent reform of the Business Rates system, which currently acts as a tax on investment.

And for all the talk about postponing the rise in corporation tax and National Insurance contributions, Tony argued in his letter that candidates should understand that firms look at the combination of all business taxes that apply. This effective tax rate includes property taxes (business rates), payroll taxes (national insurance), income taxes (corporation tax) and specific tax surcharges that apply in different sectors.

A globally competitive tax regime that can be part of our growth story will need our next PM to consider all of these as part of the bigger picture.?And that bigger picture needs to be all about going all out for bold, credible and sustainable growth.