Brace for a year of tax rises

Anyone glancing at their payslip, or preparing their tax return for the January deadline, will already have had the idea that taxes are a lot higher than they used to be. Now it has been officially confirmed. A study by the OECD think tank in December 2023, found the state was taking 35.4% of GDP, a rise of 0.9% over the last year. More significantly, it was the highest level since the group started collecting tax-to-GDP data back in 2000. 

At the same time, a study by real-estate firm Altus found that the UK had the joint highest level of property taxes across the whole of the OECD club of developed nations, with the state taking 4% of GDP out of the economy through levies on houses and land. 

The UK doesn’t rank as especially highly taxed compared with other countries. The OECD study found the UK ranked 16th out of its 32 members in terms of the overall tax burden, and that it was 1.4 percentage points above the average rate. But that is hardly the point. Different economies can tolerate different levels of tax. By British standards, taxes are hitting extraordinarily high levels compared with the past. The pips are already squeaking. 

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The reality is that taxes can’t go any higher. Over the whole post-war period, taxes as a percentage of GDP have remained broadly stable. The ratio hit 35% of GDP in 1969- 1970 and dropped to 29% in 1990-1991 at the end of a decade of squeezed spending and tax-cutting under Thatcher. Since then, it has bounced along in a range between 32% to 34%. 

Budgets come and go under different chancellors, with lots of tweaks, and the tax code has more than tripled in length over the past 30 years. But none of it makes much difference to the amount the state actually ends up taking. We are already at 35% of GDP, the highest it has ever been. The longer-term trend shows no government has managed to squeeze more than that out of the economy. 

Sure, taxes can go up. But all that happens is behaviour changes, and the state collects less money. It is not hard to see that already happening in practice. Corporation tax has gone up sharply, but there is no evidence that any more money will be collected, despite optimistic forecasts from the Treasury. A few companies will move operations abroad, others will reclassify spending as investment to take advantage of tax breaks, and at least a few small businesses will simply give up completely. 

Likewise, thresholds have been frozen, but some people will work less, and many others will decide to leave the workforce – already 3.5 million over-50s have taken early retirement even though they cannot really afford it, and 500,000 of the self-employed have stopped working. The list goes on and on. 

It is simple to announce tax rises, but hard to make them stick or control the way workers and firms respond. That wouldn’t matter very much if the state didn’t need the money. This year it will be running a deficit of £80bn and total outstanding debt has risen above 100%. If there is a recession next year, as now seems increasingly likely, government revenues will fall, as they always do when output shrinks, and welfare spending will rise still further. When will the budget be balanced? 

Spending cuts are inevitable. At some point, more will have to be spent on the health service, on welfare, on infrastructure and on housing. Where is the money going to come from? 

The Labour Party, which looks likely to come to power next year, has no ideas. It has promised to close the non-dom rule that allows wealthy foreigners to avoid paying tax on their worldwide income and to put VAT on school fees, but no one believes that will raise much money. Labour’s favourite think tanks, such as the Resolution Foundation, have put forward plans for big increases in capital gains tax, and charging national insurance on the self-employed and landlords. All that would do is hammer investment even further. It is unlikely any extra money would be raised. 

Sooner or later the country will have to start addressing how it intends to control spending instead.

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