Tax rises 'inevitable' to curb spiralling Government debt

13 October 2020, 06:11 | Updated: 7 June 2023, 08:56

Rishi Sunak has said the Government needs to "rebuild" public finances
Rishi Sunak has said the Government needs to "rebuild" public finances. Picture: PA

By Kate Buck

The Government may need to raise taxes by £40 billion a year to stop borrowing spiralling out of control, a think tank has warned.

The Institute for Fiscal Studies (IFS) said borrowing this year was already set to hit levels not seen outside the two world wars due to the coronavirus pandemic.

With the economy now shrinking as a result of the lockdown measures, it said the Government was facing a further hit to tax revenues which could easily exceed £200 billion.

As unemployment continues to rise, the IFS said the jobless total could approach three million - the highest it has been since the early 1990s.

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The warning came after Chancellor Rishi Sunak said last week in his speech to the virtual Conservative Party conference that the Government had a "sacred responsibility" to future generations to rebuild the public finances.

In its "green budget" report, the IFS said that while it would be "unwise" for ministers to try to balance the books while the economy still needed support, over the medium term taxes would almost certainly have to rise in the years ahead.

The country - and the economy - ground to a halt when lockdown was brought in
The country - and the economy - ground to a halt when lockdown was brought in. Picture: PA

The report said the Government had already increased spending on day-to-day public services by £70 billion in response to the pandemic.

Even if three-quarters of that was to stop this year, it would still add £20 billion to public sector borrowing by 2024-25.

At the same time, the IFS said that under its "central scenario" the economy would be 5% smaller in four years' time than was projected at the start of the outbreak in March.

That would mean a £100 billion hit to the public finances in terms of lost tax revenues - although in more pessimistic scenarios that could double to £200 billion.

Under the central scenario, public sector net debt is forecast to be just over 110% of national income in 2024-25 - up from 80% prior to the pandemic and 35% in the years leading up to the 2008 financial crash.

The IFS said even if ministers were content to keep debt constant at 100% of national income, and borrowing at around £80 billion a year, that would still require a "fiscal tightening" of around 2% of national income in 2024-25 - more than £40 billion in today's terms.

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IFS director Paul Johnson said: "For now, with borrowing costs extremely low, Mr Sunak shouldn't worry unduly about the debt being accrued as a result. It is necessary.

"Unfortunately, none of this will be enough fully to protect the economy into the medium run. Without action, debt - already at its highest level in more than half a century - would carry on rising.

"Tax rises, and big ones, look all but inevitable, though likely not until the middle years of this decade."

The report said that while every major economy apart from China had seen GDP shrink in the first part of the year, the UK along with Spain had suffered the biggest fall, with a 20% drop - double that of the United States or Germany.

Payroll data suggested that 700,000 employee jobs had already been lost, even before the initial furlough scheme ends at the end of October.

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The report said the unemployment rate was now likely to increase to around 8-8.5% - between 2.7-2.9 million people - in the first half of 2021.

At the same time, it said Brexit remained "a substantial economic challenge" for the country.

A "thin" trade deal with the EU could leave the UK economy around 2% smaller than it would have been if the current transition period continued indefinitely, while a "no deal" break could add another 0.5% to 1% to the hit.

"The majority of the economic costs associated with Brexit still lie ahead, and are likely to be felt quite quickly and sharply after the transition period ends," the report said.

"These effects will likely hit employment, as well as investment."