Osborne - Economist or Politician?

Ahead of the Budget statement next week, speculation is growing that George Osborne is set to announce a lowering or even the scrapping of the 50p tax rate. The government is bracing itself.

It’s no secret that the Conservatives are opposed in principle to the so-called “additional rate”, applied to an individual’s taxable earnings above £150,000, which was introduced by Labour shortly before the last election, to compensate for declining revenues from lower earners during the economic downturn (the Sage will resist the temptation to suggest other motives).

The argument goes that the income-generating effect of the higher tax rate is weakened by its deterrence effect – the prospect of paying half of almost all of one’s income in a single tax is potentially driving successful entrepreneurs overseas. It might be unsurprising that the business community is united in opposition to the policy, but that makes for a very powerful lobby.

Analysis of the additional income raised compared to initial estimates has been undertaken, and the Chancellor says any decision taken will be made on the basis of this evidence. What we do already know is that paying the additional rate increases the average overall personal tax rate, from the 23% faced by higher-rate taxpayers, to a whopping 40%.

However, as with any fiscal policy, the politics are as important as the economics, and to deliver what will inevitably be described as ‘tax cuts for the rich’ would surely be near-suicidal – not only for the Tories, but arguably even more so for the Lib Dems.

Desperate to avoid becoming the co-plotters of such a bombshell, Nick Clegg, Vince Cable and Danny Alexander are pushing for any easing of the tax burden at the top to be mirrored by one at the bottom, for example through a further increase to the personal allowance for basic-rate taxpayers – which the coalition is committed to raising to £10,000 by the end of the Parliament.

Ultimately, the effects of the 50% rate are as much psychological as economic. It can encourage high-earners to fiddle their figures, for example by turning personal income into capital gains – a tactic employed by so-called ‘one-man’ firms in both the public and private sectors. It can also serve to reassure those on lower incomes that the rich are (mostly) paying their fair share.

With the Tories apparently determined to scrap the 50p tax rate at some point, the Lib Dems’ ideal scenario – and Osborne’s easy option – is for it to be left to another Budget in another year. But the Chancellor is also under growing pressure from business – and is known to favour bold decisions and the political confrontation that they generate. What will he do? The jury is out.

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Meanwhile Ed Miliband made a rare announcement today – an actual Labour policy. He pledged to “guarantee” a 6-month minimum-wage job for every long-term unemployed young person. If only he’d shared the detail with Harriet Harman before she went in front of the TV cameras...

The irony is that a similar scheme (the Youth Contract) is already in place under the coalition government, and has already been criticised by Labour for failing to give young workers real, sustainable job prospects – once the state support disappears, the argument goes, so does the job.

In any case, isn’t it funny how many policies would be paid for by Labour’s tax on bonuses?