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Risks to the rules: tax revenues

Rowena Crawford, Carl Emmerson, Thomas Pope and Gemma Tetlow
Book chapter

George Osborne has an ambitious target to eliminate the budget deficit by 2019–20 and then to continue to run budget surpluses thereafter. As Chapter 3 discussed, this forms one of the three fiscal rules he has set himself. The latest official forecasts from the Office for Budget Responsibility suggest that he is on course to achieve this. However, there are many risks facing the public finances, which could knock the current plans off course.

This chaper covers the following points:

  • The government’s plan to reach a fiscal surplus is predicated on tax receipts increasing by 1.1% of national income (£21 billion per year in today’s terms) between 2015–16 and 2019–20.
  • Lower- (higher-)than-expected growth would hit (boost) cash tax receipts and, since cash spending is unlikely to be affected to the same degree, this would feed through into higher (lower) borrowing. Changes in average earnings levels of just 1% can change income tax and National Insurance revenues by around £5 billion.
  • Capital taxes are dependent on the prices of, or transactions in, particular assets, which can be very volatile even if the economy grows as forecast. For example, the Office for Budget Responsibility (OBR) downgraded its underlying forecast for receipts from stamp duty on residential properties in 2020–21 by one-sixth between July and November 2015.
  • Between the November 2015 Autumn Statement and the end of January 2016, equity prices fell by 7½%. If they were to remain 7½% below the OBR’s latest forecast, this could reduce capital tax receipts in 2020–21 by around £2 billion.
  • Revenues from North Sea oil and gas production are currently £12 billion below their 2008–09 level, largely as a result of lower oil prices. The overall impact of a decline in oil prices, though, is to strengthen the public finances slightly, as a fall in the price of oil boosts economic activity and hence other tax receipts.
  • One particular risk to tax receipts is future policy change. The government has commitments to increase the income tax personal allowance and the higher-rate threshold by the end of the parliament, at an estimated cost of £8 billion per year. All else equal, government will presumably need to find tax increases, or additional spending cuts, of a similar scale elsewhere to fund these tax cuts.
  • With no increase in the £150,000 threshold at which the additional rate of income tax kicks in, numbers affected have already risen by 40% since it was introduced in 2010. Current policy also fixes the £50,000 point at which child benefit starts to be taxed away in nominal terms. The number losing child benefit might rise by 50% within five years. This may prove sustainable but is not a good way of making policy.
  • History suggests the government might not increase fuel duties in line with RPI inflation as is assumed in the OBR’s forecasts – since 2011, all increases that had been pencilled in have been cancelled. Freezing fuel duties for a further five years would cost around £3 billion per year by 2020–21.
  • The government might raise revenue through changes to the pensions tax regime. However, it will need to be careful to distinguish between what is genuinely a permanent increase in revenues and what is only a temporary windfall. Relying on temporary revenues to achieve a budget surplus in 2019–20 would not be in keeping with the rationale underpinning the Chancellor’s stated fiscal objectives

This chapter was presented at the Green Budget launch on 8 February 2016. All presentations are available to view on our Youtube Green Budget 2016 playlist