Rishi Sunak and Liz Truss are vying to replace Boris Johnson. Neither has a ‘real plan’ to fix its struggling economy
“None of them have a real plan except to cut taxes,” he told CNN Business.
“It all depends on the level of taxes, the size of the government. These are important questions… [but] there is no easy solution in terms of tax cuts to the deep problems we have here,” he said.
While some of the troubles of the world’s fifth-largest economy will be largely beyond the control of Sunak or Truss, they have made bold promises to the British. Can they deliver them?
world energy prices
Sunak, the government’s former finance minister, said tackling inflation was his top priority – annual consumer price inflation in the UK hit a new 40-year high last month to reach 9.4%. This is the fastest increase among the G7 countries.
But Sunak’s options are limited to non-existent given the UK’s exposure, as a major fuel importer, to global energy prices.
“We’re importing that inflation,” Sanjay Raja, chief economist at Deutsche Bank in the UK, told CNN Business.
“The UK, as a small open economy, can’t do much, [it] cannot supply and manufacture these goods to limit the price increase to compensate for this inflation,” Raja said.
The country spends more to import goods than it earns from its exports. Soaring fuel prices have helped the UK rack up an 8.3% trade deficit, the largest since the government’s statistics office began keeping records in 1955.
Add to that a weakened currency — the pound has lost nearly 12% of its value against the U.S. dollar since the start of this year — and the country can expect the costs of its imports to rise, while its exports could become more competitive on the world market.
“There’s a lot more money going out than it’s coming in,” Maria Demertzis, acting director of Bruegel, an economics think tank, told CNN Business.
The UK has effectively dipped into its savings, Demertzis said, to help absorb the shocks of recent months. This is only a problem if it lasts much longer.
To tax or not to tax
Truss hopes to offer workers and businesses a lifeline, promising to cut income taxes drastically and drop a planned corporate tax hike next year. But increased spending could exacerbate inflation and undermine the Bank of England’s efforts to slow the economy to stem runaway price rises.
Sunak also promised to cut taxes, but only once inflation is brought under control.
The Institute for Fiscal Studies (IFS) estimated that Truss’ total tax cuts would amount to £30 billion ($36 billion). She presented no plan to control public spending to compensate for a drop in tax revenue.
It’s an appealing message for the millions struggling to make ends meet, but critics say the measures would further fuel inflation and increase public debt, which is expected to hit £100billion this year.
In June, inflation pushed interest payments on the public debt to their highest level since the government began keeping records 25 years ago.
“Certainly [cutting income tax] would strengthen incentives to enter the labor market and earn more, although these effects would be far from sufficient to make the reform self-financing,” the IFS said in a Thursday note.
If Truss wins and fails to cut spending, the IFS said, reality will bite. “But at the end of the day, lower taxes mean less [public] expenses,” he added.
Despite a slight increase in UK GDP in May, the latest month for which there is data, fears that the country could tip into a recession have not dissipated.
Yet one of the main drivers of growth, productivity, has stagnated since the 2008 financial crisis.
“The heart of economic growth is productivity growth,” Dean Turner, a European and UK economist at UBS bank, told CNN Business. Productivity measures output per unit of capital, labor or other inputs.
According to the Office for National Statistics, in the decade to 2007, output per hour worked in the UK grew by 1.9% on average each year, but fell to 0.7% over the last decade. decade following the financial crisis. It is the second slowest growth in the G7 after Italy.
Turner said the UK should “rethink [its] economic model as a whole” to boost productivity.
“The fact is we’re just not investing enough, we’re not doing enough R&D in the UK, and that’s something that’s hindering our productivity growth,” Turner said.
Higher productivity would be a boon for workers. Firms could produce more for the same number of employees and afford to pay them higher wages.
Despite high inflation, average wages are no higher today than they were before 2008, the Resolution Foundation said in a report this month.
Ilzetzki said more investment in innovation, research and development, and skills training for the workforce would go some way to boosting productivity and encouraging immigration.
Yet none of Truss and Sunak’s proposals “would put even a small dent in the deep structural challenges facing the UK”, he said.
Brexit still unresolved
According to Ilzetzki, a top priority for the next prime minister should be to clarify “once and for all, the UK’s relationship with its biggest trading partner”, the European Union.
Truss, who voted to stay in the EU in 2016, has since become a strong Brexit advocate. She is pushing to tear up the Northern Ireland Protocol – a piece of legislation at the heart of the EU withdrawal agreement that the UK signed in 2020 – which allows the free movement of goods between Northern Ireland North and the Republic of Ireland.
The protocol subjects Northern Ireland to EU rules on internal trade and means that goods traveling between the country and the rest of the UK must be checked.
Critics argue the arrangement effectively creates a maritime border within the UK and involves onerous costs and red tape for businesses.
Truss, when he was UK Foreign Secretary earlier this year, introduced legislation which promised to “end the untenable situation where people in Northern Ireland are treated differently from the rest of the UK. Kingdom” and to protect the “territorial integrity” of the country.
But overriding the protocol could lead to retaliation from the EU, with tariffs imposed on British exports. The resulting trade war would be very bad for British businesses.
Sunak has been less forthcoming about how he would handle the issue, but has previously said he would prefer to have a negotiated settlement with Europe.
Uncertainty is discouraging investment in the UK, Ilzetzki said.
‘No one will invest in the UK for a few tax points lower when it’s uncertain whether UK exporters will be in a trade war with the EU within a year,’ he added .
To make matters worse, a million workers have left the labor force and many are unlikely to return. According to the Learning and Work Institute, about half cited chronic poor health as a reason for leaving work.
“We have seen an exodus of workers like nowhere else in the advanced world,” Raja said.