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HAMISH MCRAE: Raise taxes…but only for a time

Taxes have to be fair. They have to be seen to be fair. And the money has to be spent in ways that taxpayers support. 

Those are the three tests that we should apply to the rise in National Insurance Contributions that look set to be announced next week. 

There will be a row. There already is one, with reports of disagreement within the Cabinet as to how big the increase should be, if at all. 

There will be the straightforward attack that any increase in income tax, VAT or NICs breaks an election promise. This does. But to focus on the politics is to miss the economics. 

Harsh truth: Chancellor Rishi Sunak has to put up National Insurance contributions

The harsh economic truth is that as the number of older people increase vis-à-vis those of working age, people in work will have to pay more to support those no longer in work. 

There are many other forces on public finances: obviously from the pandemic, but also less obviously as and when interest rates climb and increase the cost of servicing the National Debt. 

 There are also ways to contain the amount taxpayers contribute to looking after the needs of older people, including later retirement and higher private pensions. But in just about every developed economy, and many emerging ones, the maths are much the same. 

We have a problem, but it is nothing to what China will have in a few years’ time when the long-term effects of the one-child policy kick in. 

The Chinese workforce started to decline in 2018 and the government said in July that it would fall by 35million over the next five years.

Now to those three tests. In principle, higher contributions are fair if benefits – be they through pensions or more money for social care – rise in line. 

The problem is NICs are not really insurance. You are not paying for your own benefits; you are paying for those of the previous generation. So they are only fair if you accept that it is fair to have to pay for your parents. 

Are the taxes seen to be fair? There is a further problem. We may see NICs as paying for social security and in some senses they are. But the Treasury lumps all the revenues into one pot. 

All spending comes out of the same pot. A new tax is justified as it is for a particular purpose: Vehicle Excise Duty used to be the Road Fund tax, and in 1910 the money had to be spent on building and maintaining roads. 

Then, surprise, surprise, just before the Second World War it became part of general Government revenue. 

So would an increase in National Insurance really pay for better social care, or would it end up paying higher interest on the National Debt? There is no way of knowing. That makes it very difficult for any Government to say credibly that this tax is for this spending and that tax is for that. 

And, in turn, it makes it hard to judge whether money is spent in ways that command popular support. What we can say is that there seems to be general support for taxation at around current levels, about 35 per cent of GDP. 

 The tough question to a 30-year-old in the early stages of a career is: ‘Are you prepared to pay more of your earnings in tax than your parents did?

Add in other sources of revenue and the total rises to 37-38 per cent of GDP. That is the highest for nearly 40 years. So anyone arguing for significantly higher taxes has to be prepared to argue that the public will be content with paying more tax than at any time for a generation. 

The tough question to a 30-year-old in the early stages of a career is: ‘Are you prepared to pay more of your earnings in tax than your parents did?’ 

If all this sounds depressing, let me cite three reasons why the fiscal challenge might not be as dire as it seems. 

The first is that tax revenues are coming in pretty well. In the first four months of the financial year, that is to end-July, borrowing was £78billion. That sounds bad, but was £26billion less than the Office for Budget Responsibility forecast in March. 

The second is that labour shortages seem to be attracting more people from abroad to fill the jobs. 

The figures are hazy, but migration from outside Europe seems to have offset any move back to the Continent. This helps the workforce/retiree balance, and bodes well for future growth. 

And third, technology is making it possible for would-be retirees to carry on working, and paying tax on earnings, for longer.

I can see a way though for Rishi Sunak. Yes, he has to put up NICs now. 

But maybe, maybe, he will be able to roll back those other tax increases he announced in the spring Budget – and do so in time for the next General Election.

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