UK Economy: Rishi Suna has nothing but unpleasant options as Prime Minister

CNN business

Rishi Suna, Britain’s third prime minister in seven weeks, took office on Tuesday with a pledge to fix the “mistakes” of his predecessor Liz Truss and tackle the “deep economic crisis”.

The task will not be easy, he admits.

“This will lead to difficult decisions,” Suna said in her first speech from No. 10 Downing Street.

The UK was already sliding into recession when Truss took office in September, with energy bills driving up spending. Now Sunak has another headache: the government must restore its credibility with investors after Truss’s unfunded tax cuts sparked a bond market revolt, forcing the Bank of England to intervene to avert financial disaster. Borrowing costs, including mortgage rates, rose.

In order to achieve this goal, a specific plan will be required to put public finances on a more sustainable path. (A government watchdog warned in July that without major measures, debt could reach 320% of UK gross domestic product in 50 years).

Problem? After years of austerity in the wake of the 2008 global financial crisis, there is little appetite for government spending cuts. Moreover, failing to help families deal with rising living costs can be politically devastating and further weigh on the economy.

“It’s not a particularly nice financial hand to deal with [as] the new prime minister,” said Ben Zaranko, a senior research economics fellow at the Institute for Fiscal Studies.

Launched by Chancellor of the Exchequer Jeremy Hunt last week, he rolled back 32 billion pounds ($37 billion) of the tax cuts that formed the basis of the Truss’ plan to boost growth.

However, Suna and Hunt – who will remain in their jobs – still need to find savings of between £30bn and £40bn over the next five years to reduce public debt as a share of the economy, according to estimates by the IFS. influential think tank.

“It’s going to be tough,” Hunt tweeted. “But protecting the most vulnerable – and people’s jobs, mortgages and bills – will be at the forefront of our minds as we work to restore stability, confidence and long-term growth.”

Suna and Hunt declined to comment. If investors don’t buy their plan and borrowing costs rise again, it would be harder to get the situation under control as interest payments on the government’s debt rise.

“If the markets don’t do it [see] plans are credible, then filling the fiscal hole could be even more difficult,” said Ruth Gregory, senior UK economist at Capital Economics.

One area that Sunak can touch on is the social welfare budget. Questions have been raised as to whether the Conservative government will try to avoid increasing state benefits in line with inflation, as is customary. (American Social Security recipients will receive their biggest cost-of-living adjustment in more than four decades next year.)

Most working age benefits in the UK would normally increase 10.1% next April according to inflation data. But there is speculation that the rise could be linked to average earnings, which are growing at a much slower rate than inflation. This could save £7 billion ($8 billion) in 2023-24, according to the IFS.

However, such a move would be controversial, especially since benefits in 2022 have not kept up with inflation.

“I would like to see if we can find a way to increase the benefits of inflation, but what I will say is that trade-offs are involved,” former Conservative minister Sajid Javid told ITV this week.

A more palatable option, at least for families, would be to tax businesses more.

Hunt has already said that corporate taxes will rise from 19% to 25% next spring. The Financial Times reports that Hunt could also target the profits of oil and gas companies by rolling out a hefty tax on profits.

In an interview with the BBC earlier this month, Hunt said he was not “against the principle” of taxes and “nothing is off the table”. Higher taxes on the financial sector are also being considered, according to the Financial Times.

Industrial groups are already circling from the wagons. Banking trade association UK Finance said its members “generally pay a higher rate of tax than any other sector” and called on the government “not to jeopardize the competitiveness of the UK banking and finance industry”.

Sunak may also backtrack on Truss’s pledge to raise defense spending to 3% of the economy by 2030, although this has its own political risks in the wake of Russia’s war in Ukraine. Other countries in the region, such as Germany, have said they will increase their military investments, while the United Kingdom will be left behind, Zaranko said.

Investors and economists expect the government to announce tax increases and spending cuts soon. Hunt is due to reveal his plans in more detail on October 31.g

“Despite the fiscal turnaround, the government will still need to show a fiscally credible path in the budget next week to balance the books,” Credit Suisse economist Sonali Punhani said in a note to clients this week.

This could increase the country’s decline. The Bank of England has predicted the UK is already in recession, and a gauge of business activity fell to a 21-month low in October.

“We are seeing a significant shift in the fiscal outlook from being much looser than we expected a few weeks ago to being much tighter than we expected,” said Gregory of Capital Economics. “I think the risk is that the recession is deeper or longer than we expect.”

A weaker economy would bring its own complications.

No one wants to repeat the mistakes of the short-lived Truss era, when the bet that unfunded tax cuts would kick-start growth backfired dramatically.

But business groups warn that completely abandoning the aim of boosting Britain’s anemic economic growth would also cause problems.

Austerity in the 2010s led to “very low growth, zero productivity and low investment,” Tony Danker, head of the Confederation of British Industry, told the BBC on Tuesday.

“The country could end up in a similar predicament where all you have to do is come back every year to find more tax increases and more spending cuts because you don’t have growth.”