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Insights

Taxes and the UK Budget

Steven Bell
Steven Bell
Chief Economist, EMEA

In the run up to the much-anticipated Budget we take a closer look at the UK’s finances and explore the Chancellor’s options

The UK Budget will be the most important fiscal event in 15 years. Yet the government has not revealed details of the framework under which spending will be decided. Rachel Reeves will therefore announce both new fiscal rules, ambitious investment plans, as well as around £20bn in tax rises to plug the ‘black hole’ in finances.

A messy and complicated budget increases the risks of a market shock. While we see no chance of anything comparable to the Liz Truss mini-budget crisis, UK markets and media are now very sensitive to any hint of fiscal irresponsibility. The key risk is new investment plans that will fall outside the commitment to balance the budget for day-to-day spending. We expect a figure of around £20bn, but if it is much higher, say £50bn, then that could trigger a market shock.

But it’s not all doom and gloom. The UK economy is clearly improving, with rising growth and falling inflation. That is supported by similar positive trends in the global economy, with the US and Europe, our largest export market, also recovering.

Eurozone lags economic recovery elsewhere

Eurozone lags economic recovery elsewhere

Source: Columbia Threadneedle Investments, Bloomberg and Macrobond as at 7/10/2024

Global economic background is positive

Purchasing managers’ indices shows the US growing firmly, the UK next and Europe lagging. However the European consumer is beginning to spend more, which is good news for the UK as they represent far and away the UK’s biggest export market.

US consumers had been spending ahead of their income, pushing the savings ratio down. But recent revisions to the numbers show savings rates back to normal levels, underpinning continued strong consumer spending. This development and a strong US labour market means that recession risks have evaporated. It will also slow the pace of US interest rates cuts.

More good news is falling inflation. Inflation has been close to the Bank of England’s 2% target since April. Although the latest data show a dip to 1.7%, we expect inflation to head towards 3% next year.

There are of course the US elections to consider. But it’s not so much a coin toss as a four-sided dice throw, as control of congress is also up for grabs. A president with a clean sweep, controlling congress, has much more power, especially on the fiscal front. Divided government looks very likely but none of the four possible combinations are reckoned to have a probability of over 30%.

Core inflation falling in the US, less so in UK & EZ
Core inflation falling in the US, less so in UK & EZ

Source: Columbia Threadneedle Investments and Bloomberg as at 7/10/2024.

UK economy steadily improving

The saving ratio in the UK – the proportion of income that consumers save rather than spend – remains close to a record high, so they have the fire power to increase spending. Lower inflation, improving real incomes, should boost confidence and allow spending to increase. Much will depend on what the budget brings, especially in terms of its impact on consumer confidence.

Headline inflation in the UK has fallen dramatically but will likely start rising towards 3% over the next 6-12 months and the Bank of England will be cautious in cutting rates in 2025.

All the evidence suggests that the housing market is recovering. That boosts consumer confidence and also the economy as activity in the housing market picks up.

US were saving less …now they’re not!
US were saving less... Now they're not

Source: Columbia Threadneedle Investments and Bloomberg as at 30/09/2024. Horizontal lines show pre-covid averages.

UK is in a fiscal mess, despite the improving economy

So, with all this good news, how have we got into this fiscal mess? The simple answer is that the accumulated cost of the Covid pandemic combined with higher interest rates. Total government debt is now close to 100% of annual GDP. So, if interest rates are 4%, debt interest alone would give a deficit of 4% of GDP, so to get the deficit down to 3%, which is where it needs to be, we would have to run a budget surplus on the rest.

More economic growth would obviously have helped. But instead, low productivity has made all this a lot worse. It’s been sluggish since the Global Financial Crisis. We are sceptical about the historically unprecedented targets for increasing productivity from the Labour government. However, we applaud the focus on reversing the current weakening trend. Increasing investment is key, but the biggest challenge is in improving government services’ productivity, including the NHS.

Government debt rises to almost 100% of GDP
Government debt rises to almost 100% of GDP

Source: Columbia Threadneedle Investments, ONS and Macrobond as at 30/09/2024

A messy and complicated budget

No return to austerity underpins Rachel Reeves decision to approve the doctors’ 22% pay award, to increase public sector pay overall by 6.5% and to increase the minimum wage by 5.8%. This will slow the decline in wage inflation. That will also make the Bank of England cautious about the pace of interest rate cuts.

The Labour government has committed to not borrowing for day-to-day spending. That means filling the £20bn or so ‘black hole’ with tax increases. These are to be targeted on the ‘wealthy’ and companies. Ruling out increases of the major taxes will contribute to a messy and complicated budget.

  • National Insurance increase for employers. A tax on jobs contradicts other objectives, but is borne of necessity.
  • Capital gains tax – last time it was higher it was 28%. That rate was calculated as the then optimum level to maximise tax revenues. So a hike to levels comparable with income tax would be counterproductive in terms of cutting the expected tax revenues.
  • Pensions relatively unscathed. This would be a pragmatic decision, reflecting the political sensitivity around pensioners after the heating allowance cut, but also that changes are unlikely to raise significant revenues.
  • Inheritance tax is an obvious target, with a number of reliefs likely to be eliminated.

Ambitious investment plans are to be excluded from the government’s rule on funding day-to-day expenditure from taxation. They will be limited by new fiscal rules, but we will only find out details and more significantly, the potential scale of this borrowing with the Budget announcement. We expect a figure of around £20bn, but if it is much higher, say £50bn, then that could trigger a market shock.

UK wage growth falling from high level
UK wage growth falling from high level

Source: Columbia Threadneedle Investments and Office for National Statistics as at 27/06/2024.

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Taxes and the UK Budget

Important information

For use by professional clients and/or equivalent investor types in your jurisdiction (not to be used with or passed on to retail clients).

This document is intended for informational purposes only and should not be considered representative of any particular investment. This should not be considered an offer or solicitation to buy or sell any securities or other financial instruments, or to provide investment advice or services. Investing involves risk including the risk of loss of principal. Your capital is at risk. Market risk may affect a single issuer, sector of the economy, industry or the market as a whole. The value of investments is not guaranteed, and therefore an investor may not get back the amount invested. International investing involves certain risks and volatility due to potential political, economic or currency fluctuations and different financial and accounting standards. The securities included herein are for illustrative purposes only, subject to change and should not be construed as a recommendation to buy or sell. Securities discussed may or may not prove profitable. The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Threadneedle Investments (Columbia Threadneedle) associates or affiliates. Actual investments or investment decisions made by Columbia Threadneedle and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor’s specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Information and opinions provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This document and its contents have not been reviewed by any regulatory authority.

In Australia: Issued by Threadneedle Investments Singapore (Pte.) Limited [“TIS”], ARBN 600 027 414. TIS is exempt from the requirement to hold an Australian financial services licence under the Corporations Act and relies on Class Order 03/1102 in marketing and providing financial services to Australian wholesale clients as defined in Section 761G of the Corporations Act 2001. TIS is regulated in Singapore (Registration number: 201101559W) by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289), which differ from Australian laws.

In Singapore: Issued by Threadneedle Investments Singapore (Pte.) Limited, 3 Killiney Road, #07-07, Winsland House 1, Singapore 239519, which is regulated in Singapore by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289). Registration number: 201101559W. This advertisement has not been reviewed by the Monetary Authority of Singapore.

In Hong Kong: Issued by Threadneedle Portfolio Services Hong Kong Limited 天利投資管理香港有限公司. Unit 3004, Two Exchange Square, 8 Connaught Place, Hong Kong, which is licensed by the Securities and Futures Commission (“SFC”) to conduct Type 1 regulated activities (CE:AQA779). Registered in Hong Kong under the Companies Ordinance (Chapter 622), No. 1173058.

In Japan: Issued by Columbia Threadneedle Investments Japan Co., Ltd. Financial Instruments Business Operator, The Director-General of Kanto Local Finance Bureau (FIBO) No.3281, and a member of Japan Investment Advisers Association and Type II Financial Instruments Firms Association.
In UK: Issued by Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, Cannon Place, 78 Cannon Street, London EC4N 6AG, United Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority.

In the EEA: Issued by Threadneedle Management Luxembourg S.A. Registered with the Registre de Commerce et des Societes (Luxembourg), Registered No. B 110242, 44, rue de la Vallée, L-2661 Luxembourg, Grand Duchy of Luxembourg.

In Switzerland: Issued by Threadneedle Portfolio Services AG, Registered address: Claridenstrasse 41, 8002 Zurich, Switzerland.

This document is distributed by Columbia Threadneedle Investments (ME) Limited, which is regulated by the Dubai Financial Services Authority (DFSA). For Distributors: This document is intended to provide distributors’ with information about Group products and services and is not for further distribution. For Institutional Clients: The information in this document is not intended as financial advice and is only intended for persons with appropriate investment knowledge and who meet the regulatory criteria to be classified as a Professional Client or Market Counterparties and no other Person should act upon it.

Columbia Threadneedle Investments is the global brand name of the Columbia and Threadneedle group of companies.

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Important information

For use by professional clients and/or equivalent investor types in your jurisdiction (not to be used with or passed on to retail clients).

This document is intended for informational purposes only and should not be considered representative of any particular investment. This should not be considered an offer or solicitation to buy or sell any securities or other financial instruments, or to provide investment advice or services. Investing involves risk including the risk of loss of principal. Your capital is at risk. Market risk may affect a single issuer, sector of the economy, industry or the market as a whole. The value of investments is not guaranteed, and therefore an investor may not get back the amount invested. International investing involves certain risks and volatility due to potential political, economic or currency fluctuations and different financial and accounting standards. The securities included herein are for illustrative purposes only, subject to change and should not be construed as a recommendation to buy or sell. Securities discussed may or may not prove profitable. The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Threadneedle Investments (Columbia Threadneedle) associates or affiliates. Actual investments or investment decisions made by Columbia Threadneedle and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor’s specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Information and opinions provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. This document and its contents have not been reviewed by any regulatory authority.

In Australia: Issued by Threadneedle Investments Singapore (Pte.) Limited [“TIS”], ARBN 600 027 414. TIS is exempt from the requirement to hold an Australian financial services licence under the Corporations Act and relies on Class Order 03/1102 in marketing and providing financial services to Australian wholesale clients as defined in Section 761G of the Corporations Act 2001. TIS is regulated in Singapore (Registration number: 201101559W) by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289), which differ from Australian laws.

In Singapore: Issued by Threadneedle Investments Singapore (Pte.) Limited, 3 Killiney Road, #07-07, Winsland House 1, Singapore 239519, which is regulated in Singapore by the Monetary Authority of Singapore under the Securities and Futures Act (Chapter 289). Registration number: 201101559W. This advertisement has not been reviewed by the Monetary Authority of Singapore.

In Hong Kong: Issued by Threadneedle Portfolio Services Hong Kong Limited 天利投資管理香港有限公司. Unit 3004, Two Exchange Square, 8 Connaught Place, Hong Kong, which is licensed by the Securities and Futures Commission (“SFC”) to conduct Type 1 regulated activities (CE:AQA779). Registered in Hong Kong under the Companies Ordinance (Chapter 622), No. 1173058.

In Japan: Issued by Columbia Threadneedle Investments Japan Co., Ltd. Financial Instruments Business Operator, The Director-General of Kanto Local Finance Bureau (FIBO) No.3281, and a member of Japan Investment Advisers Association and Type II Financial Instruments Firms Association.
In UK: Issued by Threadneedle Asset Management Limited. Registered in England and Wales, Registered No. 573204, Cannon Place, 78 Cannon Street, London EC4N 6AG, United Kingdom. Authorised and regulated in the UK by the Financial Conduct Authority.

In the EEA: Issued by Threadneedle Management Luxembourg S.A. Registered with the Registre de Commerce et des Societes (Luxembourg), Registered No. B 110242, 44, rue de la Vallée, L-2661 Luxembourg, Grand Duchy of Luxembourg.

In Switzerland: Issued by Threadneedle Portfolio Services AG, Registered address: Claridenstrasse 41, 8002 Zurich, Switzerland.

This document is distributed by Columbia Threadneedle Investments (ME) Limited, which is regulated by the Dubai Financial Services Authority (DFSA). For Distributors: This document is intended to provide distributors’ with information about Group products and services and is not for further distribution. For Institutional Clients: The information in this document is not intended as financial advice and is only intended for persons with appropriate investment knowledge and who meet the regulatory criteria to be classified as a Professional Client or Market Counterparties and no other Person should act upon it.

Columbia Threadneedle Investments is the global brand name of the Columbia and Threadneedle group of companies.

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