Why Tax Cuts Shouldn't Work...

…at least in the format that HMG is considering.  I understand they will be targeting cuts at the low-paid and indebted, which of course is a compassionate thing to do in the circumstances.  To expect them to use the tax cut to increase their spending, however, is morally reprehensible.

Any financial advisor worth his salt will instead advise the low paid to use the cut to make sure that their existing spending is sustainable into the future (i.e. that they reduce their reliance on borrowing, etc. to fund their day-to-day living expenses) and to save any left for when taxes go back up.  They should advise the indebted to use the cut to reduce their borrowing, as should the Government, personal finance journalists and any other debt counsellors out there.  In both cases, therefore, the net result on consumption, correctly, should be nil.  Therefore, the initiative deserves to fail as it is currently designed.

Perversely, if the tax cuts really are to boost spending, they should be directed at those who do not need the money.  It is only to these people that the Government can, with a clear conscience, say ‘go forth and spend’.  I can’t see this happening, though…

I read some time ago that the country’s sustainable level of personal indebtedness is around £850-900 billion.  It is currently at £1.3 trillion.  That means we have in the recent past had £450 billion of consumption that rightly belongs in the future.  To balance this out, we need reduced consumption for some time to come – I don’t know how long – if we are to eliminate the personal debt overhang that is the real problem the country faces.  A £30 billion tax giveaway this year won’t do much to clear that, will it?

It’s also not clear to me how long this tax cut will last, as I’ve seen nothing that says whether it will be repeated in 2009-10.  For people to get their finances on a proper even keel, these tax cuts will be needed for a long time, just to clear the overhang, but I can’t see that happening.  At some point, the Government is going to have to restore the taxation level, or even increase it, to get their own finances in order.  When this happens, we’ll be back to the position we’re in now, so we are just deferring the Day of Reckoning to some later date.

Hang on – that’s it.  HMG is deferring the problem out to 2011, so it can get re-elected – or am I being cynical?  Or has Micawber economics finally landed at the centre of Government?