Agood number of Tory members will be disappointed by the absence of any fresh faced candidates from the contest to replace Boris Johnson as prime minister. They are now presented with a choice between Rishi Sunak and Liz Truss, two long-standing cabinet ministers who, try as they might, will struggle to distance themselves persuasively from the last few years of majority Conservative government.
Still, disgruntled Conservatives among the grassroots should do their best to find some consolation in the fact that the race between Sunak and Truss, though lacking in populist dynamism, is not a theatrical, pantomime-ish bust-up. On the contrary, there are profound differences between the two candidates, most strikingly on economic, fiscal, and monetary issues. The debate can become highly technical, even dry at times. But it is one that the Conservative Party, stuck in a crisis of self-definition, needs to have—especially when a recession looms and inflation continues to outpace household budgets.
Kate Andrews, economics editor at The Spectator, has shrewdly described the showdown between Sunak and Truss as a battle in which Thatcherism is pitted against Reaganism. The dichotomy will strike many as strange, not least because of the strong personal relationship between Thatcher and Reagan. Together they have been regarded as the ambassadors of a shared philosophy, the king and queen of neo-liberalism. But while their subtle economic differences took a back seat to their more significant shared commitments throughout the 1980s, they are now on full display in the final hurdle of the Tory leadership contest. Ultimately, it is a fight between Sunak’s ‘Thatcherite’ concern to prioritise taming inflation and Truss’s ‘Reaganite’ focus on boosting economic growth, even at the expense of deficit-financed tax cuts.
Liz Truss talks about wanting to make the most of Brexit, despite the fact that she backed “remain” in 2016 and voted several times for Theresa May’s watered down deal with the European Union. Her credentials are as an economic libertarian and tax-cutter. This is an advantage in a race now being defined by the need to manage the cost-of-living crisis and stimulate economic growth by slashing red tape. The question is whether Truss is able to present a convincing economic plan—one which details how she would cut taxes while not adding to the national debt. This requires cuts in public spending to make up for the fall in revenue that tax cuts are likely, though not certain, to cause. It will be interesting to see what forms of government expenditure Truss will propose to ditch as the campaign develops. However, up until now she has been light on detail. This is not likely to change given the pathetic manner in which she rejected an invitation to be interviewed by Andrew Neil. The veteran broadcaster would surely have subjected Truss’s plans to implement £30 billion of immediate tax cuts—while also raising defence spending to 3% of GDP without any corresponding austerity slashes to public expenditure—to the scrutiny they deserve. So far, Truss’s simple argument has been that growth will take care of things. Rishi Sunak, to his credit, agreed to be grilled by Britain’s most fearsome grand inquisitor.
The one time Truss did get more specific about what she would cut to pay for her fiscal generosity, she swiftly back-pedalled. Only a day after pledging a robust reform of public sector salaries, Truss performed a U-turn on her eye-catching policy to bring national pay bargaining to an end. The announcement explained that the reforms were estimated to save almost £9 billion a year, covering roughly a third of the £30 billion that Truss has already pledged in tax cuts. They would have made national pay bargaining a devolved matter: depending on how much it costs to live in a specific region, public sector workers would be paid more or less. It proved too politically explosive during a cost-of-living crisis and was therefore hastily retracted within 15 hours.
Sunak’s priority, he explains, is to manage the crisis of debt in the short term, rather than promising tax cuts of the kind promoted by Truss. These, he contends, would only lead to falling revenues. Still, having a tough time keeping pace with the apparently much more popular Truss, he has at times appeared to U-turn on taxes in a bid to win over the Tory membership. Despite devoting most of his campaign to the argument that tax cuts are profoundly irresponsible in the current climate, he recently promised to cut VAT on energy bills in a plan touted to save the average household £160 a year. He claims it is a costed temporary measure, that it will require no additional borrowing, and that it will assist the poorest with the cost-of-living crisis. Sunak has further promised to slash the basic rate of income tax from 20% to 16% by the end of the next Parliament. It would cost £18bn and be paid for by extra revenues from economic growth—the same solution that Truss has been criticised by Sunak for championing. Unsurprisingly, the Truss campaign accused him of another flip-flop.
In principle, Sunak does describe himself as a “low tax conservative.” His argument is that cutting taxes right now is fiscally unfeasible, even reckless. He wants to deliver them later, once the public finances are in order. Deficit-financed tax cuts, he says, run the risk of entrenching inflation for longer and driving up interest rates (bad news for people with mortgages) and the operating costs for businesses (which are frequently financed by bank loans, of course).
Indeed, Sunak is not wrong to point out that higher inflation tends to correlate with higher interest rates. This is not an iron law of economic mechanics as such, but it may as well be given the way in which, whenever under pressure to control inflation, central banks almost always tighten monetary policy by hiking rates, as the Bank of England recently did. One consequence, Sunak warns Truss, of pursuing economic growth at the expense of taming inflation is not only that rising interest rates punish those with mortgages or businesses, but that they increase the cost of servicing the enormous debts that countries like Britain have amassed.
However, there are serious questions to be asked about Sunak’s apparent belief that fiscal tightening can regulate inflation. At present, the rate of increase in the price of goods and services has hit 9.4%, a 40-year high, and is expected to peak in Britain at 13% later this October. How to get this under control? Sunak believes that tax increases—particularly to National Insurance and corporation tax—are a useful way of taming inflation. He certainly believes that tax cuts would worsen the issue, while also leading to a greater crisis of debt management. Truss takes the opposite view that it is best to slash tax now and pursue high economic growth—as was the top pursuit of Reagan, whose administration was extremely casual about running deficits if it meant letting American people keep more of their own money.
Sunak’s reasoning on inflation appears to be as follows:
a) Inflation is caused by swings in the business cycle. When total demand—aggregate spending by households, businesses and government—is high, it exceeds total production and therefore pushes prices upwards. On the other hand, when total spending declines, there is an excess supply of goods and services, and therefore inflation falls.
b) Higher taxes of the kind Sunak favours (for now at least) dampen aggregate demand and therefore reduce inflation, while tax cuts of the kind Truss wants will increase aggregate demand and thereby cause more inflation.
Part a is perfectly understandable from the standpoint of basic macroeconomic theory. This type of inflation exists, and it is the kind that we normally see. However, contrary to what Sunak seems to believe, this type of inflation also tends to be self-regulatory: when prices increase at the peak of the business cycle, households and businesses adjust their spending plans accordingly. Economic activity slows down and the inflationary growth period is followed by one of more moderate economic activity, possibly even a recession.
As for point b, Sunak seems to be assuming that higher taxes will not worsen the mess of inflation. This is at best a shaky premise, especially if the increased taxes fall on those businesses which set prices in the first place, as Sunak’s rise to corporation tax will. To calculate that businesses will selflessly eat the cost of the state pickpocketing more of their profits is fanciful. More probable is that those higher costs will be transferred, either to consumers who will have to endure increased prices or to workers who may have to put up with cuts to their hours or even their wages. It remains unclear whether Sunak has fully appreciated the way in which his tax plan could serve to produce unintended consequences. Tax cuts, by contrast, may give businesses more room to reduce their prices, to be more generous to workers, and thereby ease the pain of inflation across the board.
For this reason, Truss believes that economic growth must be the priority, following a lockdown-induced collapse in GDP and a fairly stagnant, underwhelming recovery. She is championing tax cuts as boosts to “entrepreneurship” and “innovation” which will not only stimulate the economy and allow households to keep more of their own money, but raise government revenue in the long run. Under Truss’s tax plans, Sunak’s National Insurance increase will be reversed. His planned hike of corporation tax, too, will be ditched.
Sunak’s fiscally conservative response is that it is impossible to get something for nothing. That is, one cannot slash national taxation unless you are also prepared to rein in public spending. James Forsyth makes the strong point that Truss’s “something for nothing” economics is a monumental gift to Keir Starmer’s Labour Party: “if the Tories can tell the public that the state will stop them from needing to sell their home to pay for social care and that no taxes will be needed to cover it, why can’t Labour do the same—and then some?”
But is Sunak the most qualified man to be making these kinds of arguments for fiscal conservatism? Sunak talks a good game about sound money, but his record as Chancellor in recent years undercuts that narrative. To finance the government’s heavy-handed and indiscriminate lockdowns, he spent billions upon billions of printed and borrowed money, much of it paying those most unlikely to die of COVID-19 to stay at home and do nothing. Most damningly, Sunak’s treasury spent more on this furlough scheme than it did on emergency additional pandemic funding for the NHS: £170 billion versus £63 billion respectively. Sunak has also broken one of the Conservatives’ main manifesto pledges by increasing the tax burden at all, let alone allowing it to hit its highest level in nearly seven decades.
Charles Moore, the veteran journalist and biographer of Margaret Thatcher, has drawn an instructive parallel between the downfall of the Iron Lady, successfully plotted by Michael Heseltine, and the more recent coup against Boris Johnson, in effect sparked by Sunak’s resignation: “As John Major understood and Michael Heseltine did not foresee, remorseful MPs tend to turn on the chief assassin and favour, almost paradoxically, the successful candidate who seems loyal to the ousted leader. If that logic works this time, Rishi Sunak… will find it hard to win.” Recent polling would appear to bear this out. There has already developed a quite fearsome anti-Sunak faction in the parliamentary party, not to mention among grassroot Tories. Far from closing the gap, Sunak trails Truss by no fewer than 38 points.
It would require something extraordinary—a cruel twist of fate, a scandalous revelation, a monumental blunder—for Truss not to succeed Johnson and become Britain’s third female Prime Minister. Still, the Conservatives can only profit from a long and detailed debate on economic policy, since it is only in the light generated by such discussions that our dire prospects stand a chance of being managed and swiftly reversed.