Here’s how Chancellor Rachel Reeves should go for growth – and why she won’t

A focus on growth would require a series of policy U-turns by Labour and a recognition that businesses can’t thrive in an environment where they are over-taxed and over-regulated

It seems like a very long time ago now, but it is less than nine months since the Chancellor Rachel Reeves was pledging a focus on economic growth. In her first speech in the job, in July last year just two days after the general election, she promised decisive action to “fix Britain’s economic foundations” with a plan for a “dynamic, modern and growing economy”.

Deputy Prime Minister Angela Rayner backed her Chancellor saying: “Our country is under new management and a new era for economic growth will be built on secure foundations. The Chancellor and I will work in lockstep to kickstart the economy, unleashing housebuilding and powering local growth.”

It all sounded so promising, but here we are, less than a year into this new Labour government, and instead of celebrating growth, businesses, workers and the public sector are awaiting the Spring Statement with trepidation.

Chancellor Rachel Reeves wants higher growth rates, but she's going about it the wrong way (Picture: Peter Cziborra/WPA pool) | Getty Images

Growth forecasts falling

Far from having delivered growth, the UK economy is now on the verge of recession. The Bank of England has downgraded its growth estimates for this year from 1.5 per cent of GDP to just 0.75 per cent. The expectation is that the Office for Budget Responsibility will tell us today that it is cutting its own forecast to just 1 per cent.

The impact of this on the Chancellor’s plans is severe, with the fiscal headroom she had previously expected now eliminated. And the higher-than-expected interest rates, again a consequence of the Chancellor’s decisions, have increased the cost of government debt servicing by around £10 billion a year, or about 0.3 per cent of GDP.

The bad economic news is reflected in business sentiment. The increase in employers’ National Insurance contributions (NICs) will only start having an impact on business from next week and, according to the Federation of Small Business’s survey of their members, a third of small employers expect to slash staff this year, with 51 per cent saying labour costs are one of the greatest barriers to them growing their business. Business confidence is already in sharp decline, and potential further tax increases will reduce the opportunity for consumer spend still further, adding to the pain.

The Chancellor has, of course, ruled out any increases in income tax or VAT, and it would be unexpected if the Spring Statement were to signal any further tax changes at this point. But the previously announced measures on inheritance tax affecting farmers, employers’ NIC increases, and the removal of the winter fuel allowance from most pensioners are not enough in themselves to fill the black hole in the public finances.

The welfare and benefit cuts announced last week by the Labour government – already hugely unpopular with many of their own backbenchers – will be followed by reductions in departmental spending, affecting areas other than the NHS and defence.

Chancellor’s policies hurting the economy

Reeves has already proposed a 15 per cent cut in the running costs of government by the end of the decade, which unions have warned will mean at least 10,000 jobs are likely to go. Whilst a welcome step in the right direction, we know from past experience that all governments promise to slim down, but in practice the numbers tend to go in the opposite direction.

It is all a long way from the optimism of July last year, when we were being promised that additional public spending would be funded by growth, which in itself would be fuelled by supply-side reforms in areas such as planning and house building. The logic of this approach was, and remains, entirely correct.

A faster growing economy delivers benefits all round, with rising living standards and more tax revenue to fund public services, without tax rates themselves having to increase. Yet the Chancellor has got herself in a position where the measures she is introducing, such as the employers’ NIC increase, will drag growth downwards, rather than up, as the figures already tell us.

U-turns are necessary, but unlikely

So what options does Reeves have left to her? Some Labour MPs are demanding more borrowing rather than making cuts to spending, but this is simply unrealistic. Current levels of spending, nearly £1.4 trillion annually, are simply unaffordable, and the money markets would have an adverse reaction to borrowing limits being extended, likely pushing interest rates up further.

Further tax rises might be found, with the potential raid on savings such as ISAs, or changes to inheritance tax, but in the short term neither is likely to raise significant sums to address the short-term fiscal challenge, and both would be even more unpopular with the public than the tax changes already introduced.

We are left with the conclusion that getting back to a focus on growth is where the Chancellor needs to be. That requires an entirely new approach to the economy than the one that we have seen from Labour so far. The increase in employers’ National Insurance is, by definition, a tax on jobs.

Couple that with the planned new employment legislation making it harder to fire underperforming workers, and it is no surprise that many small businesses are saying they expect to reduce staff numbers rather than increase them. The last thing the government wants to do is add to the benefits bill with more unemployed, rather than have people working and contributing through their taxes.

A new focus on growth is going to mean a series of policy U-turns from the Chancellor and her Cabinet colleagues, recognising that businesses can’t thrive in an environment where they are over-taxed and over-regulated.

But with already angry backbenchers to deal with, we would be very surprised were Reeves to go down that route. In which case, it is very difficult to see anything other than more pain coming down the track.

Murdo Fraser is a Scottish Conservative MSP for Mid-Scotland and Fife