18 October 2024: The country should be prepared for one of the biggest tax rises in history

The rumour mill is in full flow as Rachel Reeves reaches the final stages of preparation for her first budget, which she will reveal to MPs in less than two weeks It looks set to be one of British history’s biggest, if not the biggest, tax-raising events.

Reeves and her boss, Sir Keir Starmer, face an awkward time having backed themselves into a corner by promising in their election manifesto that the three main avenues of tax income, Income tax, employees’ national insurance and VAT will remain unchanged.

Employer groups are already outraged since neither Starmer nor Reeves refuses to rule out an increase in employers’ national insurance. Capital Gains Tax, particularly on share transactions, and Capital Gains Tax are likely to be targeted.

Also, despite Labour’s desire to stimulate the housing market, stamp duty on property sales above £500k is expected to increase.

With inflation falling below the Bank of England’s 2% target for the first time in three and a half years, the Monetary Policy Committee has all the incentive it needs to cut rates again when it meets next month.

However, with price rises unlikely to stay below 2%, with September’s data likely to have been a one-off, a lot will depend on the amount of fiscal tightening that comes from the budget.

Business minister Sarah Jones has denied that consumer confidence has fallen under Labour, stating: “£63 billion doesn’t lie”.

Shadow ministers raised research from the Institute of Directors Economic Confidence Index, which measures business leader’s optimism in prospects for the UK economy.

It showed that confidence continued to fall in September to -38, from -12 in August 2024, the lowest result that the index has registered since December 2022 (-58).

Treasury minister Emma Reynolds hailed Monday’s International Investment Summit as a “major vote of confidence in the UK” after businesses committed to invest £63 billion.

The announcements made both during and in the immediate run-up to the summit are expected to create almost 38,000 jobs and include investments in green energy, infrastructure, and life sciences.

During a debate on the summit in the Commons on Thursday, Ms Reynolds dubbed the planned investment a “stability dividend” from investors after the general election.

The pound is still under pressure from a strengthening dollar, but it managed a minor rally yesterday from doubts about a rate cut happening next month. It reached a high of 1.3023 and closed at 1.3011.

Donald Trump appears to have run out of faith in the man he made Chairman of the Federal Reserve. He has labelled Jerome Powell’s decision-making as crazy and loco and the FOMC as being out of control.

Trump conveniently has the luxury of considering half of the Fed’s mandate, the part that considers economic growth as measured by job creation. The fact that “out of control” decision-making has driven inflation down from close to double figures to its present rate of a little over the Fed’s target of 2% has escaped the Republican Presidential Candidate.

Powell and his colleague, Treasury Secretary, Janet Yellen whose job hangs on the balance of the result of the election appear to have engineered a soft landing for the economy despite the huge increase in Government spending that has taken place under President Biden.

The market has been impressed by Powell’s dexterous handling of the economy during the past four years’ unprecedented macroeconomic turbulence.

The U.S. economy has, after all, emerged from the Covid pandemic in surprisingly decent shape. While unemployment is slightly higher today than it was a year ago, it remains low at 4.1%.

The prime-age employment rate is at a 23-year high. Real wages are up, inflation is back under control, and productivity and output are growing briskly.

GDP was up 3% in the second quarter, and revisions to economic data show the economy grew faster than previously thought from 2021 to 2023.

The robust recovery has, in large part, been driven by the economy’s underlying strengths: healthy corporate profits, a strong job market, and substantial household savings left over from the pandemic.

But it has been helped along by smart, cool-headed policymaking from Powell and Yellen, who over the past year seem to have pulled off what most observers thought impossible: a fabled soft landing, bringing down inflation without tipping the economy into recession.

Sceptics, like J.P. Morgan CEO Jamie Dimon, have a simple counterargument to any praise of Powell’s and Yellen’s recent performance. They say that they’ve been solving a problem that they helped create.

And it’s certainly true that the two of them were late to recognize the risk of inflation as the U.S. emerged from the pandemic. To ensure that the economy didn’t get stuck in the kind of post-recession doldrums that the U.S. found itself in for years after the pandemic, the administration went big on stimulus. It enacted the $1.9 trillion American Rescue Plan; even as inflationary pressures were already building in the economy.

Powell should have been able to live down his “inflation is transitory” remarks by now, but a Democrat Congress still reminds him from time to time.

Data for economic output in the shape of PMI indexes are the only tier-one data that is due for release next week as the country enters the final week of the election race.

The dollar is likely to continue to be relatively strong into the election, although Trump’s continual threat to introduce tariffs on imports if elected may dampen some market enthusiasm.

Yesterday, the index rose to a high of 103.87 and closed at 103.78. Its next upside target is 104.50 which provided the watershed for its fall to 100.30 over the summer.

The European Central Bank cut interest rates yesterday for the third time this year, saying inflation in the eurozone was increasingly under control while the outlook for the bloc’s economy was worsening.

The first back-to-back rate cut in thirteen years marks a shift in the ECB’s focus from fighting inflation to trying to stimulate growth in the twenty-country union.

Growth which has lagged behind the G7 over the past two years looks to have bottomed out, but it will require stimulus, and some structural improvements to regain its pre-eminence.

ECB President, Christine Lagarde, told a press conference following the announcement of the decision, that “We believe that the deflationary process is on track and all the data we have received since the last meeting of the Governing Council is heading in the same direction.

Asked about the prospect of higher tariffs on exports of goods to the U.S., should Donald Trump be elected next month, Lagarde said that “any trade obstacles will provide ‘downside pressure’ for the Eurozone.”

“Any restrictions, uncertainty or obstacles to trade are a genuine issue for our economy. We have tried to create an open trading bloc, while the ECB is also very attentive to energy prices linked to the conflicts in the Middle East and Ukraine.”

The decline in the eurozone inflation rate is welcome news, but the headline measure of price rises understates the scale of the problem facing policymakers, European Central Bank board member Isabel Schnabel said recently.

Data releases from around the eurozone have pointed to a decline in the headline rate of inflation.

“These are welcome developments,” Schnabel. “However, the current level of headline inflation understates the challenges monetary policy is facing.”

Schnabel pointed to still rapid increases in services prices as a key source of “strong” domestic inflation. And while she acknowledged that the growth outlook has darkened over recent weeks, she said a soft landing is more likely than a recession.

That combination suggests that policymakers shouldn’t abandon their efforts to tame inflation “too early.”

It is apparent that while the focus of the ECB’s monetary policy has shifted, there are still hawkish members of the Governing Council who are concerned about underlying inflation.

The euro has lost ground recently, and the possible further divergence of monetary policy between the U.S. and the Eurozone may add to inflationary pressures.

Yesterday, the single currency fell to a low of 1.0811 but recovered to close at 1.0831.

Have a great day!