Economic policy

Two facets of Trussonomics: tax cuts and interest rate hikes | Economic policy

Liz Truss lacks strong backing for her immediate tax cut plan if she succeeds Boris Johnson as prime minister. Last week, when interviewed on Radio 4 Today, she offered only one name: Professor Patrick Minford.

It is therefore not surprising to find a letter in the Daily Telegraph signed by a group of economists endorsing Truss’s proposal.

A letter to the editor has been a long-standing feature of British politics since 364 economists wrote to The Times in 1981 challenging Geoffrey Howe’s decision to raise taxes when the economy was in recession.

The Daily Telegraph letter backing Truss’ tax plan has fewer signatories – just seven – and includes veterans of the 2016 Brexit campaign.

Graham Gudgin co-authored articles criticizing the Treasury’s assessment of the economic costs of leaving the European Union, while other signatories include Gerard Lyons, economic adviser to Boris Johnson when he was mayor of London, and Shanker Singham, of the Institute of Economic Affairs, a free market think tank.

Without mentioning Truss by name, the letter argues for the immediate tax cuts proposed by the Foreign Secretary.

But it also spells out a feature of Trussonomics that the Tory frontrunner has been silent on so far: that the surge in demand resulting from the scrapping of the National Insurance contribution hike in April would be offset by higher rates of higher interest from the Bank of England.

“The political solution requires tighter monetary policy from the Bank of England to control inflation and a looser fiscal stance, centered on targeted tax cuts, to deal with weakening growth. “, says the letter.

It would be a mirror image of what happened in 1981, when higher taxes in the budget triggered interest rate cuts. Now the argument is that interest rates would rise to allow taxes to fall.

There is a case for a change in the policy mix. Interest rates have been kept low since the global financial crisis of 2008-09 and the Bank has also injected almost £900bn into the economy through its quantitative easing program of bond buying.

Fiscal policy – ​​the tax and spending decisions made by the Treasury – remained relatively tight. Whitehall departments have been squeezed, the welfare system has been made less generous and the tax share of national output is set to rise to its highest level in 70 years.

The letter from the seven economists does not specify by how much official interest rates – currently 1.25% – should increase. This implies, however, that the Bank need not be too aggressive.

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“Given the nature of our inflationary shock – driven by global supply-side measures and previously loose monetary policy – ​​the targeted tax cuts will not be inflationary. The domestic economy is not overheating. .

Minford was more specific, saying borrowing costs could reach 3% and possibly more. “Yes, interest rates need to go up, and that’s a good thing,” he told The Times. “A normal level is more like 5%-7%, and I don’t think it will be a bad thing if we get back to that level.”

Sunak, the underdog in the leadership race, seized on Minford’s comments, saying interest rates of 7% would add nearly £600 to the average monthly mortgage payment. Overall, owners would be £6,600 worse off even after Truss’ tax cuts, Sunak’s team say.