There are at least three ways Labour could boost growth – the Budget missed them all

Reeves appears to want to mimic the sclerotic economies across the Channel

The main thrust of this Budget is to increase government spending over the next five years by about £70bn (2pc of GDP) per annum, with about one third of this capital spending and two thirds of current spending.
The NHS is the leading beneficiary. Between 2023/24 and 2025/26, expenditure on health and social care is planned to increase in real terms by an annual average of 3.4pc.
About a half of the funding for these increases comes from a rise in taxation, mainly increased National Insurance levies on employers, taking the tax burden to 38pc of GDP, its highest ever peacetime level.
The other half, amounting to about 1pc of GDP, comes from increased borrowing. The OBR described this as “one of the largest fiscal loosenings of any fiscal event in recent decades.”
Apologists will doubtless say that this combination of higher spending and higher taxes is needed to provide better public services. They will also note that in Europe there are many countries that have had higher tax burdens than us and yet have still managed to deliver decent rates of economic growth. Most noticeably, with a much larger state and a much higher burden of tax than us, France has a higher per capita GDP.
I suspect that the Chancellor thinks that she can manoeuvre the UK into being more like those other European countries. Yet in the 1980s, when the UK outgrew most European countries, it was because Mrs Thatcher and her brilliant chancellor, Nigel Lawson, cut taxes, curtailed the public sector and strengthened the private sector. What’s more, this pattern continued for a good while under Tony Blair.
Have Labour’s leaders noticed what has been happening to European economies recently? They have been growth laggards and large parts of the European economy are in crisis. Increasingly, our keenest competitors lie outside the EU in Asia and North America and the tax burdens there are typically much lower. They should be our yardsticks, not the sclerotic economies across the Channel.
Moreover, how a large state funded by high tax rates affects economic performance depends critically upon how well the Government spends the money it raises. The evidence is that the UK spends public money badly, particularly on infrastructure projects.
How do you reinvigorate the economy? The default answer from the Conservatives is “tax cuts”. Unfortunately, we haven’t been able to test how effective this would be because, despite its protestations about wanting to reduce taxes, the last Conservative government actually increased them (not that this did much good either).
Labour’s default answer seems to be “investment”. We are soon to find out both whether they are able to achieve higher investment and whether this does much good. Of course, they will be able to increase what is called investment in the public sector. But whether this delivers the goods depends upon the quality of the investment. Bad investment is just consumption but without the enjoyment.
The Government also wants to increase business investment. Yet I cannot see how the combination of increased workers’ rights, higher National Insurance payments, a higher minimum wage and increased taxes on capital are likely to deliver higher private investment. In fact, surely the opposite. The OBR concludes that over its forecast period, business investment will fall as a share of GDP.
And, despite the extra public investment, the OBR reckons that in five years’ time output will be broadly unchanged – although in the longer term, if the increased public investment were sustained, then potential output would be increased.
The Government has just made the Bank of England’s job harder. The boost to aggregate demand from increased investment spending, alongside the increased pressure on pay settlements from the 6.7pc rise in National Living Wage, will make it more difficult to bring inflation down and keep it there.
The OBR estimates that, at the peak, the Budget increases inflation by 0.4pc. Interest rates should still come down a bit, but not as much as they might have done if the Chancellor had been more prudent.
Managing an economy is not easy at the best of times. It is as well for a government to get right those things that are under its control or influence. The key to improving economic performance lies with reducing public expenditure as a share of GDP.
Several underlying forces have driven up public spending. One is debt interest which now accounts for over 7pc of total government spending. There is not much the Government can do about this unless and until it reduces the amount of debt in relation to GDP and/or its policies facilitate lower interest rates. But the measures in this Budget go in the wrong direction on both counts.
There are many areas deserving of a radical new approach. I will highlight three. First, according to the Office for National Statistics, productivity in the public sector is now 7pc lower than it was in 2019. Nevertheless, public sector pay is likely to be about £20bn (9pc) higher in 2024/25 than it was expected to be only three years ago.
Second, benefits expenditure to support disabled people and people with health conditions has just about doubled in real terms over the last 20 years. It is up by 20pc since the pre-pandemic year of 2019/20.
Third, not just because of increased disability, the rate of economic inactivity has increased alarmingly. The share of 16 to 64-year-olds not in the labour force, not able to work or seeking work is almost 22pc.
If it were to tackle these three issues successfully then the Government could deliver a distinct improvement in economic performance. On the evidence so far, I won’t be holding my breath.
It is reported that the Chancellor has removed the picture of the former chancellor, Nigel Lawson, from the wall above her desk in the Treasury. That act speaks volumes.
Roger Bootle is senior independent adviser to Capital Economics and a senior fellow at Policy Exchange. [email protected]