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Monday, 25 November, 2002, 15:36 GMT
Will taxes have to rise?
The smoke signals in the run-up to the Pre-Budget report suggest that the Chancellor will not try to plug the gap in public finances by raising taxes. But could the chill economic winds blowing through the UK eventually force Gordon Brown's hand?
What a difference a year makes.
When Gordon Brown delivered his 2002 budget it seemed like the 'Iron' Chancellor was revealing a softer, more caring side.
Public spending would rise above inflation but would be paid for by a combination of a penny on National Insurance (NI) in 2003 and by dipping into a war chest of money built up in previous years.
However, in 2002 the economy has performed below expectations, tax returns are down and the Chancellor is likely to have to eat a large slice of humble pie.
The Government has three options to help balance the books - tax more, spend less or increase borrowing.
Whatever option the Chancellor takes it is likely to have an impact on the wealth of the person in the street.
Taxing more and spending less will take money out of the economy and could lead to unemployment and a crisis in the housing market - the buoyancy of which is key to consumer confidence.
As for borrowing more, at first glance this seems the least painful option but if the Government gets its sums wrong then it could lead to higher interest rates which may push the economy into recession.
Biting the bullet
Spending less is not a realistic option - given Labours election pledge to improve public services.
Anyway, most of the new money has already been earmarked and to pull the rug from under high-profile spending projects would be a credibility-smashing political volte-face.
However, Gordon Brown is not afraid to bite the tax raising bullet - just ask pension scheme trustees and the privatised utilities.
Britain's still buoyant consumer sector is the logical place for tax rises. According to Deloitte and Touche, increasing VAT from 17.5% to 20% would bring in more than £9bn alone.
However, Jonathan Loynes, chief economist at Capital Economics told BBC News Online that the Chancellor would be ill-advised to increase the tax burden now.
"The consumers' willingness to carry on spending has single-handedly kept the UK economy going, to hit them now could lead to recession."
The Government could choose to tax the other runaway area of the economy - the housing market.
Revenue from stamp-duty levied when a house is sold has been one of the few growth areas of Government finance in recent times.
The Chancellor could raise this tax.
"It does not contradict a manifesto pledge and the Chancellor could dress a rise up as cooling the housing market and rebalancing the economy," Mr Loynes.
Unlikely, according to Bill Dodwell, tax-partner at Deloitte and Touche. Mr Dodwell said the housing market is already showing signs of softening and is strongly linked to consumer confidence:
"At this stage the Chancellor can get by without taking the risk of raising Stamp-duty but he may need to find a few extra billion come April and then who knows."
Afford to borrow
For the short-term, the Chancellor has given off strong signals that borrowing more is the way he plans to go.
The Chancellor is relatively free to increase borrowing.
The Government has paid back more than £50bn of its debt during recent years.
Gordon Brown can build up this debt again without great difficulties.
But should Britain start to go seriously into the red then the person on the street could feel the pinch.
"If money markets believe that Britain is marching headlong into debt then it is likely that the Government will have to pay more for its borrowings.
"As a result, interest rates across the economy will rise, the housing market take a fall and recession brought closer, which in turn will hit tax revenue," Mr Loynes said.
Already, the industry watch survey claimed that up to 50,000 businesses will fail during the next two years.
Factor in rising interest rates and the industry watch figure could look optimistic.
In the wash
If this nightmare scenario occurs, taxes may have to go up anyway according to Mr Loynes.
"We have moved very rapidly from a position of having a substantial budget surplus to one of deficit. This is alarming and suggests there could be a structural problem with public finances."
Mr Loynes cited increased taxes and red tape on businesses - both bugbears of the employers' organisation the Confederation of British Industry (CBI) - as hampering UK plc.
"If structural weaknesses lie behind the deteriorating public finances, radical surgery will be necessary and that means taxes go up," Mr Loynes said.
However, Mr Dodwell believes this is a prospect facing the Chancellor in the future.
"It is fine to borrow for now and see what comes out in the wash. But if public finances are in as parlous a state during 2003 and 2004 then tax would rise."
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