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THE UK’S ECONOMIC POLICY FAILURE

By Meghna Sudeep

The United Kingdom under Prime Minister Liz Truss announced the worst policy decisions under their “Growth Plan” to overcome the economic recession and here’s why:

The United Kingdom is currently witnessing a period of economic and political turmoil, with Prime Minister Liz Truss resigning after 45 days of being in office. This move was spearheaded by the extreme tax policy changes that were introduced on September 23rd by the Finance Minister, Kwasi Kwarteng, as part of the Growth Plan, a structured proposition to tackle the high energy prices and inflation plaguing the UK economy.

Due to the energy crisis caused by the war in Ukraine, as well as the supply chain disruption caused by both the pandemic and Brexit, the United Kingdom saw a period of rising costs that resulted in a higher cost of living. In July of this year, inflation was at 10.1%, the highest it has been in the last 40 years. In order to tackle this, midway through June, the Bank of England raised its interest rate by 0.25 percentage points to 1.25%. Later again, on August 4, the interest rate was increased by 50 basis points, from 1.25 percent to 1.75 percent. By doing this, the Central Bank aimed at increasing savings and spending, theoretically resulting in lower pricing and fewer severe product shortages. 

Fiscal Policy, however, seemed to be directed in the exact opposite direction. The Growth Plan, announced by the Truss Government two weeks after the Queen died, aimed at boosting economic growth, which seemed beneficial enough until one got into the details. The Plan projected a 2.5% trend rate of growth and stated that through sustainable growth, higher wages and better opportunities could be provided along with sustainable funding for public services. In order to achieve this, the corporation tax increase was cancelled, maintaining the rate at 19% along with an abolishment of the highest rate of income tax for the rich. This “mini-budget,” as it is also called, proposed the largest tax cuts the UK had seen in fifty years, with an estimated cost of 45 billion pounds over five years. It also announced a rise in national insurance costs and in an effort to encourage more property purchases, Kwarteng and Truss’ plan also lowered the stamp tax, a fee on land sales in England and Northern Ireland.

The Government felt that these tax cuts would encourage businesses to invest more and encourage more people to enter the labour market, thus improving the supply potential of the economy. 

In reality, this could not be further from the truth. These measures would have resulted in increased consumer demand, hence raising prices and causing higher inflation. This is the exact opposite of what a government should aim to do during an inflationary crisis. These policies put more money in the hands of the people instead of reducing the money that is in circulation. Investors and analysts all voiced their fear on the increased inflation the package could cause and the escalation of the Treasury’s debt.

Global markets reacted to these set of policy decisions by selling off UK-backed assets. Bond investors were alarmed by the lack of fiscal restraints and the package’s potential for inflation. They started to sell their British assets, including bonds and other holdings denominated in pounds, since they viewed the tax cuts as absurd and risky. This caused the pound to drop to its lowest-ever value versus the dollar— $1.03, before beginning to rise later that same week.

It was the first time since 1985 that the pound fell under $1.11. The so-called “Trussonomics” new economic strategy was flatly rejected by investors.

 Apart from the immediate market troubles the UK was going through as a result of this policy announcement, economists also noticed how these policy changes were directed towards benefiting the rich and harming the everyday citizen in the long term. Since the Government planned to make up for the lack of revenue from the taxes through public borrowing, an increasing public debt was inevitable, putting the burden on the people themselves. This would end up widening inequality, with more benefits handed out to the rich. The tax cuts would end up putting money in the hands of the wealthy and increase burdens on the bottom half of society, with energy bills doubling and mortgage costs rising. 

The UK Government made these policy pronouncements without waiting for an impartial evaluation of the $48 billion yearly tax reduction from the nation’s budget watchdog. Bond prices fell, driving up borrowing costs, causing havoc on the housing market, and bringing pension funds dangerously close to bankruptcy. The Government experienced extreme disapproval and scrutiny after the “mini-budget” was announced, with the financial market erupting into chaos and the International Monetary Fund issuing a rebuke for their decision.

The UK central bank announced that it would print £65 billion to buy government bonds from September end to October 14 to essentially protect the economy from the effects of the Truss growth plan after verbal assurances by the UK Treasury and Bank of England failed to convince the public.

However, eventually, Truss inevitably decided to reverse her position on business taxes, sacking her Finance Minister who announced them. She resigned a couple of days later as faith in the Government had fallen to an all-time low. The mini-budget was detrimental to her rule and an economic failure. Her policies, if implemented, would have inflicted harm on the British economy and been dangerous to their citizens who are already reeling under an economic recession. 

There will likely be a recession all winter long. Even before Truss wreaked havoc on the financial markets, policymakers were faced with difficult decisions. Now that the government’s reputation has been damaged, they are in an even worse situation. 

The policy decisions taken by the Conservative Party under Liz Truss proved to be a massive blow to their legitimacy. The UK had once again taken up a decision of self-harm, similar to the Brexit situation in 2016, that ended up sabotaging businesses and investments. The United Kingdom needs to pull up their socks and focus on inflation-curbing, investment-inducing policies along with increased capital productivity and technological research.

Meghna Sudeep is a columnist at Nickeled & Dimed.

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