222. The Four Budget Priorities For Rachel Reeves

0:11Hello and welcome to The Rest is Money with me Robert Peston. I'm delighted to be joined today by Lord O 'Neill, Jim O 'Neill, chair of Northern Gritstone, very distinguished economist, friend of the show. The reason I wanted to talk to you today is because, you know, one of, like ours, one of your big obsessions is how do we get the growth rate up in this country and how do we make sure that different parts of the country benefit in a fair way from whatever growth can be generated. We've got terrible inequalities in this country, including regional inequalities. We had this very unusual, genuinely unusual speech yesterday by the Chancellor.

0:50Unusual because we are three weeks before budget. And this is going to be a very important budget. She called a bunch of journalists, including myself, to this briefing room they have in Downing Street. And she gave a speech, which she billed as setting out the economic background for the budget. Now, this isn't the first time that chancellors have given speeches in the run up to a budget, but it is definitely the first time in living memory where a chancellor has very publicly said, I want the world to know what I think of as being the sort of really important economic borrowing fiscal background to my budget.

1:32So it was unusual. So I suppose I just want to ask you, as somebody who watched it, what did you make of it? I mean, it was exceptionally unusual to drag us all out of bed so early for what I think is normally something a kind of prime minister normally does in dramatic circumstances is amazing. So they have raised expectations pretty spectacularly, in my opinion, that something big is coming on Budget Day. And for the way I've been thinking, and I think we've talked about before, it certainly led to my imagination, at least, exploring the idea that this is get real moment, possibly for all political leaders in this country, about we're finally going to start dealing with some of the really big challenges the country needs to tackle.

2:22I think it's pretty clear that what the Chancellor did by choosing the time, the audience, and what she said, she's going to break the manifesto pledge, which has been pretty clear to me for at least since they climbed down on the welfare before, and they're going to have to. that I've been suggesting that to her colleagues. And so I welcome that. I don't, you know, people are going to have political funny games about it, but it's necessary. There's a lot of things that need to change. There's a lot to unpick there. So let's just start with, you know, she creates this idea that it's an emergency by doing it, as you say, eight in the morning, summoning political editors, economic editors to Downing Street.

3:07Did her analysis of what's gone wrong live up to the billing? Obviously, people can pick holes and say, well, a lot of this might have been evident when you were elected and certainly when you had a budget a year ago. You know, I wouldn't want to spend my time in all of that because aspects of that are probably true. But I think as time goes by, and now that the OBR is sort of forced a hand a bit by revising down the productivity forecast and therefore implicitly the, as we're all expecting, the debt situation, and probably because of the very bothersome opinion polls for the current government, they've got, you know, they're going to wake up and smell the money and that, you know, what are they in power for?

3:50And are they going to be able to get growth going significantly, as well as really persuade the bond market that the UK debt situation is going to be dealt with? It's been very clear to me since June, the way until two weeks ago, the way the gilt market has traded, where yields haven't dropped when US and German yields have dropped, and ours have gone up more when theirs have, that's a classic sign. And now, of course, if there isn't any significant on budget date, the markets will not like it at all. Two big issues there. One is the challenge of getting the debt under control, 2.9 trillion The point about the national debt is it's been on a straightforwardly rising tack, which is obviously a concern to lenders, to investors in the UK.

4:43As somebody who was there, as somebody who asked her a question, it was clear to me that what she wanted to get across was a message to reassure lenders to the UK, investors in gilts, in government bonds, that she was going to get the growth in the debt back to something that is, I suppose, closer to growth in the economy and therefore not spiraling out of control. but there was another way of seeing the sort of backdrop to what she talked about which I didn't feel she really addressed at all so the big problem in the public finances as you've alluded to is that the OBR has conducted a supply side review of the British economy some would say rather later than it should have done And that supply side review is bringing it into line with the Bank of England and other forecasters.

5:42And bringing it into line means that the OBR has become more pessimistic about the outlook for productivity, output per person, output for the stock of capital, and more pessimistic about the growth outlook. And therefore, more pessimistic about the extent to which existing taxes can generate enough revenue for the chancellor to meet her fiscal targets. And so she concentrated yesterday on, I'm going to do the right thing to keep the debt under control. And therefore, the message we all took away was taxes going up very significantly in the budget. And indeed, as you pointed out, she's going to break the manifesto and the basic rate of income tax is going to be increased.

6:24And we might come back to whether that is the optimal tax to increase. But what I want to ask you is the other way of interpreting this OBR downgrade would be to say, oh, my God, this is just more evidence that our big problem is that the economy is still bumping along, not growing enough. And this is, you know, we're into our 16th, 17th year of too low growth. I might argue why wasn't there a section yesterday which was about the imperative not just of reassuring lenders but of getting the growth rate up of where's the growth plan? Exactly correct. At the risk of upsetting the Chancellor and people close to her because I like them as people and I talk to them but I think and I pray that they realise that too because if the only thing that happens on budget day is an increase of significance in the basic income tax rates and other measures to effectively increase the so-called buffer, as well as meeting her rules, the markets aren't, you know, they might be happy for a week, but there's no way that's going to resolve the persistent underlying issue.

7:43And what I hope, And I have some suspicion that there will be issues presented in the budget about whether all of them will be dealt with now. I doubt, but it would be monumental if they were. But I have suspicion that they will at least be raised as things they have decided they're going to deal with. So tell me what those would be. There were four huge things which the 65 million of us that live in this country, you know, we basically want more public spending. We don't want our taxes going up and we don't want our interest rates going up. And it's pretty clear, in my opinion, since the summer, the markets are like enough for this nonsense.

8:30So one of the more things you would like to see from her is that she would drop this commitment that the state pension goes up. It's the higher of CPI, two and a half, or earnings. Or earnings, yeah. Which, as you say, many people, including yourself, would say is just unaffordable. Not only is it unaffordable, but it's completely unfair from a generational perspective. and of course indirectly links to many other issues. The second thing that I would love to see and about if we would have had this call six weeks ago I would have had more confidence something's coming but it's all gone quiet is major reform of the taxation of property in this country both in terms of getting away from this three four decade out of date approach to council tax where wealthy people get subsidized effectively and also being bold enough to say that we have a plan when the circumstances are right, if not now, to get rid of stamp duty too.

9:34As you're saying, so your second area where you'd like to see proper reform is in terms of the taxation of property and housing. I mean, as a start, do you think there's any chance she'll simply announce, which seems to many of us to be, you know, in a sense, the absolute sort of minimum that they should be doing of just revaluing our properties. Because we haven't had a proper revaluation since, I think, 1991 or something. Yes, I think there's a reasonable chance that's going to happen. And it should. And if she revalues, then how would you tax housing? You know, I'm not a housing expert. But what I find interesting is those that are have been a lot more vocal about it the past two months than they have been for years.

10:18so they obviously see a window. I think they need to just have a completely different system, but one that allows for more frequent changes to the actual rate pending the circumstances that drive these things. And we need to get rid of this. The standard duty is put five economists in the room and this would be one of the areas where there wouldn't be five different views. I think you would get an overwhelmingly positive response. I know you absolutely do. I mean, the idea that we're actually penalising people for moving is ridiculous. It's bonkers. It's bonkers. And so I think there's a chance of some movement on that, and maybe more than they've talked about recently.

11:00I'm not sure. I'd hope so. But the chance, the time is now to do it. And do you think there should be a differential, I mean, people call it a mansion tax. I mean, if you abolish stamp duty, if you manage to make council tax a more rational tax because you at last get up-to-date valuations where more expensive properties do get charged significantly more because at last we have data on which of the properties that are genuinely the most valuable. But would you also have an additional so-called mansion tax on the more expensive and additional tax on more expensive properties? No, I wouldn't. I think you just need to go to a smart system.

11:44I mean, it depends. If they were going to abolish stamp duty completely now, then obviously there would be a short-term net cost fiscally to that. They would have to really move significantly on the higher band for the higher-valued properties. But I think an additional mansion tax on top, it just doesn't make any sense. You know, they've got, again, linking it to the core issue and sort of sniping around at things to sort of superficially bash the wealthy. I mean, if you keep doing more and more of them, you are going to get rid of every wealthy person to sort of not live here and not pay taxes here.

12:22And, you know, as one or two people occasionally point out, it is more and more the higher income people who are paying more and more the tax. So, you know, there's an end to that if you want to have growth. Can I just ask, there are some people who would argue that we shouldn't value the property. We should value the underlying land. because if you value the property, you sort of disincentivise people from improving their properties. I mean, that is the economist's dream. Of course that is true. I mean, the real major, major ultimate reform is to shift to a land value-based tax completely. I mean, in your conversations with the Treasury, do you get any sense that they're likely to be as bold as that?

13:06In recent weeks, it's been a lot quieter. I think that might reflect more broadly that they're a bit irritated with me saying they are going to have to break the manifesto and so they might not want to talk to me quite as much as they have. But I did, but not so much recently. So we're going to go for a very quick break, Jim. I'll be back in a minute. This episode was brought to you by the Teach and Further Education campaign. Now, from bridges to train lines to wind turbines, Britain's infrastructure didn't just appear overnight. It was built by engineers And those engineers were taught by someone.

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15:12Welcome back to The Rest is Money with me, Robert Peston. I'm delighted that Jim O 'Neill is here now. Who knows whether in the end the Chancellor will be as bold as she needs to be to essentially put in place a compelling growth agenda in this budget on November 26th. But there are four big things you would like to see from her. you're sort of hopeful that they'd be moving in that direction. We've talked about two, get rid of the triple lock, reform property taxation, get rid of stamp duty, and then just make more rational the way that our homes and land are taxed. What would be the other two big changes you'd like to see?

15:48Well, power reform. They could hint at being serious about it by saying they're going to accelerate the Tim's review timing. And Tim's just to remind people that is the review which is looking at the system, personal independence payments, the elements of universal credit that go to disabled people. This is all about how disabled people are protected. Well, I've become, since the climb down and all the political fallout, frankly, it seems to be being gamed. There was a remarkable piece in the Sunday Times by, I think it was Tom Calvert, maybe two months ago, showing the number of people that claim all four forms of PIP, and it's now close to a million people.

16:31Their average earnings are 3 ,000 more than the minimum wage. And in a civilized, sophisticated nation, for that to be the status quo is kind of ridiculous. And especially when you look at the speed in which that has risen. And you can see it also in terms of other forms of, let's call them broad welfare payments, I think something that I know on a personal basis you are admirably so involved in with schools and the remarkable rise in so-called SEND children who have to go to special needs. The amount of the increase in payments that are going to families effectively for an incentive also seems very financially luxurious.

17:21And so there are many of these things. which are adding to the future debt burden that somebody is clearly going to have to deal with. And yes, you've got to make sure that you're being fair to those who are genuinely in need of these things, so genuinely disabled people, and to incentivize the school system to not just think about where they are in the league tables, but educating children properly as opposed to just happily sending them off to some other place because it affects their lead to a bit. You know, these things are really important as part of the astonishing rise in our welfare budget.

18:01And I think that would really persuade long-term forecasters about the UK's supply side. Charlie Mayfield, I heard this morning, giving some evidence of the review he's been conducting. And of course, we all know the numbers are astonishingly bothersome. and the sets, if we carry on the way we are, they're going to rise dramatically more. And, you know, ultimately long-term economic growth, which is what the OBR focuses on, driven by the number of people that are fit and healthy enough to work and their productivity. And so somebody, and it feels, my instinct is it's getting closer because the political downside of not doing is just increasingly limited.

18:43Somebody's going to start doing something about that. And I think the existence of the Timbs Review gives them the chance to do it, especially because the other main two political threats actually may be more than two. Certainly, the reform movement is now shifting dramatically. And of course, the Tory party started to make noises about this. So it's going to have to be dealt with. I mean, I suppose my issue just here would be that although it must be the case, you can receive benefits that exceed, you know, as you say, minimum wage work. There will be some gaming that is going on. But I think one should not minimize the fact that there has been a genuine rise in mental health problems and it is connected to things like social media and the COVID crisis and the rest of it.

19:35So it is not the case that everybody who's claiming is somehow making it up. And this is an argument. I mean, I actually had this on the podcast with Mel Stride, the Tory shadow chancellor, who absolutely takes the view there's got to be welfare reform. And I think, frankly, this is a government that believes there has to be welfare reform, the weight at which these budgets, whether it's the budget for disabilities, whether it's the budget connected, as you say, to vulnerable children, send children, the way they're rising. It's absolutely clear to me that they are rising in an unsustainable way.

20:09The bit of it that no political leader is prepared to grasp, though, is I do think that if you are going to tackle these problems, you have to be prepared to spend quite a lot more money in the short term. Because if you're going to basically get these people off benefits, what are the things you're going to have to do? Well, you've got to give them advice. You've got to give them skills. You've got to give them proper mental health support. and these are you know i think many of the people who are currently claiming benefits are not at work would love to go back to work but they're not being supported to do so and governments that want people to go back into work it costs you money and they can't do these things for nothing no i'm glad you pushed me on it i certainly don't want to create the impression that everybody that's blaming these things is gaming the system it's obviously not true but what is clear if you look at the scale of the increasing trend in so many areas, for some reason, the UK is dramatically unique in the G7.

21:07It's much worse here than it is elsewhere. That is true. And that should give us pause for thought. Yes, exactly. As an economist, you immediately think about those things. All the sort of societal forces that one thinks might be contributing to this are not unique to British people. and so why should ours be rising so dramatically compared to elsewhere so and you're right you need to do all the things to incentivize people to get into work but let me bring as a subsection of my third of this third thing and i'm quite evolved in this as it relates to greater manchester a better way of dealing with the complexity of it is devolving some of the responsibility and linking it to different budgets greater manchester is being given as part of its latest devo settlement a really modest trialing let's call it exponents uh where it's preventiveness looking at the inter interrelationship between uh social care mental health and welfare payments and i think that is the right way to go when you've got sufficiently responsible and ambitious metro urban areas where so much of this is located.

22:25Because it is really complex stuff that requires people that really understand how the interplay between all these things are going on in their area. It's quite, as with so many other areas of devolution, it's quite hard for me to understand why somebody sitting in Whitehall, however well-intentioned they are, thinks there's the same solution to this in every different region of the country. It's clearly, in my judgment, not the case. That's bonkers, as you say. And we obviously need more devolution in these, particularly when it comes, as you say, to helping people off welfare into work. Can I therefore ask you, what is the fourth pillar you would like to see?

23:01Surprise, surprise. NHS and the use of technology. When I look at the cost that the NHS and this never-ending presumption, whatever else is going on, is going up in the future. I increasingly believe that, and in fact, I actually ended up writing a piece about this out of frustration entitled, What is the point of AI unless it can boost productivity? and one of the if not the single biggest area that's relevant to this country is the role of much more substantial technology ranging from basic diagnostics to much more sophisticated things in embedding technology and linking it up all across the health system we desperately need to improve the productivity because that is easily the one that's the largest and growing so much It should be a massive priority.

23:59No, I completely agree with that. It's also quite exciting if you do, by the way. Gosh, yes. Yeah, no, no, I completely agree with that. So now I want to bring you back to where we started, which is you have been consistent in saying for some time that they need to break the manifesto. Can I just check? My judgment is that if they're going to break the manifesto, and I slightly agree with you that given the sums of money, they have to raise 30, 35 billion. Whatever they do to raise taxes is going to be a big moment. A lot of people are going to be unhappy. But putting up 30 taxes or 20 taxes is nuts.

24:38It creates more complexity. Lots of losers are all known. You only have to look at, they took 600 million off the farmers and the farmers have been bringing our high streets to a halt and they've got lots of public sympathy. It's been hugely damaging to the government. You know, just imagine a situation where they target 10 or 20 different groups of that sort. That would be both bad economics and bad politics. So sharing the burden, as indeed she said she would, across the vast majority of people is almost certain, even though painful, the most sensible way to go. But am I right that actually in the current circumstances, putting up the basic rate of the choices that she has, She's going to break the manifesto.

25:21National insurance, basic rate of income tax, VAT. The other one that's ruled out is corporation tax. Is putting up the basic rate of income tax the least worst bad thing to do? Yes, in my opinion. As you asked that, I'm thinking in the context of what was something that she didn't say much, but I thought was quite precise yesterday. And you were sitting there, so tell me whether you agree. She emphasised the focus on trying to reduce the cost of living. So I think that certainly means VAT, significant VAT increases without the question. Also, she can't do that because bond markets wouldn't like it because it would basically, Bank of England would see it as an increase of price pressure.

26:03Interest rates would fall slower, you know. It is the least bad choice. I agree with that. And the broader point that I really want to strongly agree with what you said, this era of just dabbling around at the edges of finding something that isn't in some kind of manifesto pledge and whacking that whatever gets done that representative group is going to moan and you know they've had them all moaning like crazy since last year's budget so and they don't really individually make a lot of sense and they don't really raise that much money you know get on and do it and be serious. And I think the time is sort of right for them to be that, for their own self-preservation, because the country and the markets desperately need it.

26:51And all these things are sort of coinciding. It could turn it into being a very exciting time. Yes, that's certainly true. And I suppose the one thing that I was most encouraged by that she said, and I'm sure you would take the same view, but she very explicitly said that she has a choice in terms of how to mend the public finances. And although she didn't name George Osborne, it was plainly referring to what happened in those early years of austerity because what she said was, I could, she said, fix this hole by cutting back investment. And she said very, very explicitly, I am going to take the hard long-term view.

27:36We need investment to get our productivity up, to essentially fix the economy. And it was the one thing she said yesterday where I did inwardly have a bit of a yippee. I suppose the challenge, of course, is that where people like you and I think, thank goodness she's taking a slightly more long term view. And she's not going to make the easy political choice of cancelling, you know, 20, 30, 40 billion of investment three or four years out. Nonetheless, that's still politically, given our short-term political cycles, you know, we shouldn't underestimate that is quite a brave thing she's doing, putting taxes up rather than cutting investment.

28:16And she should get credit. She should get credit for that. I really admire how you have raised that because, you know, if I really home in on the journey, I'm a huge fan and the focus on boosting public investment. She's the first chancellor that's really done that from I can remember in a long time. And it is very admirable because that's part of boosting growth and something you and I have discussed before in one of these chats. and actually coincidentally the day before we're having this chat i gave evidence to the house of commons business and trade committee on this topic and they should reverse the way they've allowed uh nista the new entity that's presiding over infrastructure projects to just become another part of the treasury and make it really publicly transparent so they can make this clear commitment to public investment spending even better because it is vital.

29:12And you are right for her to reiterate her belief in that yesterday is really admirable because it's really important for dealing with our growth challenge in the UK. Now, we'd like to finish on a positive note. That is a positive note. We've had lots of constructive suggestions, but we have got this really important budget coming up. Jim, as always, great to see you. And we'll pick up again after the budget where we will have to do some kind of assessment whether she's done the right thing. Thanks again, Jim. Thank you so much for having me on. Always a pleasure. And that's it for this week's Rest Is Money.

29:48See you soon.