That’s an understatement. In response to their proposals to cut taxes and subsidize energy costs, the pound plummeted and gilt yields soared. economists expressed Concerns about UK debt sustainability. Some political commentators have called for her term as prime minister to end quickly.
But markets and commentators have wildly overreacted. Much of what Truss has suggested makes perfect sense.
The Prime Minister is absolutely right when he focuses on economic growth. The UK is now the only country in the Group of Seven with a smaller economy than it was in the fourth quarter of 2019 before the coronavirus pandemic. In the 40 quarters leading up to the pandemic, the economy grew at an annual rate of less than 2 percent more than half of the time.
Several of the Prime Minister’s proposals would likely boost economic growth by boosting private investment in the UK, which has been worryingly low for years and lags behind that in other countries. The Government’s tax plan would scrap a proposed increase in the corporate tax rate from 19 per cent to 25 per cent and make a temporary increase in the annual investment allowance permanent, allowing companies to deduct the full cost of qualifying plant and machinery up to £1million in the first year.
These changes would strengthen investment over the longer term through higher after-tax returns, which in turn would increase productivity. This is urgently needed as weak productivity growth threatens wages, income and mobility. In addition, Truss’ plan includes exploring ways to expand tax breaks on research and development spending to support the fundamental research that drives long-term prosperity.
The Prime Minister’s plan also includes deregulation. For example, Truss would accelerate the completion of infrastructure projects by reducing the scope of environmental impact assessments. It would also lower taxes on real estate transactions, create a more fluid housing market, and increase economic efficiency and labor mobility.
The most questionable parts of the plan are the income tax cuts. The one percentage point cut in the property tax rate to 19 percent will boost consumption at a time when the Bank of England is trying to curb inflation. But after worrying rhetoric about central bank independence during the leadership election, the Prime Minister clarified: “It is right that interest rates are set independently of the Bank of England and that politicians do not decide.”
The Prime Minister’s proposal to abolish the 45 per cent tax bracket on income above £150,000 a year – the top 1.1 per cent – was also unwise in the current fiscal and economic environment, drawing much criticism and eventually being scrapped. “I get it and I’ve been listening,” Truss said.
The energy subsidies are hard for an economist to swallow. By shielding the public from high prices, they would reduce the incentive to change their behavior: turn off the lights when leaving a room, put on an extra sweater. But other European countries are broadly pursuing similar policies, and there simply aren’t any good solutions for the government when average household energy bills are about to skyrocket due to the Russian invasion of Ukraine. And these subsidies are not economic stimuli, but merely shift the responsibility for bearing high energy costs from the private sector to the public sector.
So yes, there is legitimate cause for concern and criticism here. But Britain is not collapsing. In fact, there’s a lot to support here.
Fortunately, the exaggeration appears to have died down and markets have stabilized. The pound rebounded from losses after the Bank of England intervened to provide emergency liquidity for the financial system and the government’s decision not to scrap the 45 percent interest rate. The UK rate on 10-year bonds is less than half a percentage point above the US rate – a relatively small gap.
But stability is not enough. Implementation of the plan was botched, causing a credibility crisis for the government. Truss and Chancellor of the Exchequer Kwasi Kwarteng must convince the markets and the public that their plan is sound. They need to explain why the energy subsidies are the best of a bunch of bad options, and why their tax and regulatory changes will boost growth.
Credibility also requires that they clearly state where they intend to cut spending in order to achieve a balanced budget. And the government must flesh out its plans to deregulate childcare, agriculture, infrastructure, housing and land use.
In Birmingham, Truss took off the green eye shades: “Low growth isn’t just numbers on a spreadsheet.” Indeed, slow growth means fewer opportunities for economic advancement. It means distribution conflict. It means workers’ talents are under-utilized and energy is wasted. It means lowered hopes and more modest dreams for the future.
The Truss economic agenda is in the works. It started badly. But by focusing on growth, the Prime Minister is clearly pushing Britain in the right direction.