How Osborne should set out a path to lower taxes in the budget

By Paul Goodman

A passage in his budget speech should run roughly as follows -

"I turn now to income tax.

No-one on either side of the House would dispute that, in the medium term, lower tax rates can sometimes deliver higher revenues - and that higher tax rates can sometimes deliver lower revenues.

This is a principle that both this Coalition Government and the last Labour Government have recognised.

Last year, this Government examined the effect on future revenues of different capital gains tax rates before settling on 28%.

In previous years, the last Labour Government examined the effect on future revenues of different cigarette duty rates before settling rates.

So I intend to apply this principle to rates of income tax.

As the House knows, I'm not in a position to announce cuts in income tax rates this year.  However, I can announce today that I have asked the Office of Budget Responsibility to examine the effect of reductions in income tax rates on future revenues.

The OBR will report back to me by the end of the summer, and I will report back to the House at the time of the pre-budget report.

I repeat what I've said before - that Britain cannot afford to become less competitive than other countries; that enterprise, work and effort should be rewarded; that hard-working families should be able to keep more of what they earn.

And that's why I've set out today this pathway to lower taxes."

The advantages of a budget speech section of this kind are as follows -

• Osborne's indeed not in a position to cut income tax rates this year, given the scale of the deficit.

• However, there's a precedent from last year's budget for a study.

• This is crucial in getting agreement from the Liberal Democrats.  Nick Clegg, with an eye on Vince Cable and his party's left, would probably block any attempt to cut the 50p rate in this year's budget were Osborne to push for it.  (The Deputy Prime Minister is, as he was last year, part of the four-man team that's drawing up the budget.  The days when Gordon Brown, as Chancellor, wouldn't show Tony Blair the budget in advance are long gone.)  But the Liberal Democrats can scarcely object to a study by an independent body.

• If the OBR says that keeping the 50p rate is likely bring in less revenue than scrapping it - which any objective study would surely do - the Chancellor then has the political cover, as revenues improve, to scrap the rate or at least raise the level at which it kicks in.  This may be the best one can reasonably hope for while the Coalition lasts.  In short, asking the OBR to carry out a study would Osborne's Wanless Report - a means of getting a recommendation for action from a third party.

• And if the Chancellor's looking for background material on the effects of the 50p rate, he could usefully remind journalists of pieces by -

• Peter Young of the Adam Smith institute on this website: "Our model shows that if taxpayers’ responses to the new rates are relatively limited, the ten year effect of the change in tax rates is estimated to be public revenues forgone of approximately £350bn, after netting out the additional receipts from taxes, or approximately £430bn gross. If taxpayers’ responses are relatively far-reaching, the ten year effect of the change in tax rates is estimated to be approximately £640bn of net receipts forgone, or approximately £700bn gross. These are large numbers. The effect on growth is also large. If taxpayers’ responses to the new rates are relatively limited, we estimate that economic activity is set to fall by some 20% over a ten year period  below the estimated level without the 50p tax rate.

• His colleague Jo Johnson in the Financial Times: "Out of 86 countries recently surveyed by KPMG, only three – Sweden, Denmark and the Netherlands – had top income tax rates higher than the UK’s in 2010. The World Economic Forum’s 2011 Global Competitiveness Report ranked the UK 95th out of 135 countries on the “extent and effect of taxation” (which measures the impact of a country’s tax system on incentives to work and invest) – outperformed by financial centres such as the US and Switzerland".

• Fraser Nelson on Coffee House about a rush of revenue to the Treasury: "...the tax paid last month was in respect of the 2009-10 tax year – when the top rate of tax was 40p. Of course, many of the super-rich are on PAYE – but that has happened since last April. It doesn't explain a January uplift. Today’s surprise tax haul can be partly explained by the fact that folk sucked forward their income, to avoid the 50p rate. That’s what high-paid people do. They shift money, suck forward earnings, move cash abroad, work less, incorporate, take payment in other means, do anything they can to minimise their tax exposure. Those on the highest incomes can usually afford an accountant to make sure they don’t hand money over at what is (when you count NI) a 51p tax. (This will rise to 52p in April, due to tax rises which the Chancellor is planning)."

I've recommended this course of action before, here and here.