Taxing times for Scottish ministers

Britain's public finances are getting tighter, putting constraints on the rhetoric from party political conferences.

Yet there's not so much talk about the pressures for increased taxes next spring. A year out from the likely date of the next Westminster election, the Lib Dems pulled back from their conventional promise to out-tax others with a penny for health or education.

Tories in Manchester were, we were told, under pressure from the party right to offer tax cuts. It seemed hard to believe a fortnight ago, and moreso now, that the person with the audacity to lead the tax-cutting right was Liz Truss.

The Chancellor, Jeremy Hunt, was resisting such conference crowd-pleasing promises, at least until next year. His signal has been of a much tighter public spending outlook since government borrowing costs rose steeply.

Markets are pricing in an expectation of a more prolonged battle to bring down inflation, meaning sustained higher interest rates.

A lot depends on the strength or weakness of China's recovery. But the military, diplomatic and humanitarian tinder box on the eastern shore of the Mediterranean is not helping to reassure.

The Institute of Fiscal Studies has set out budget options today, saying the UK government is in a "horrible fiscal bind", as borrowing costs eat up a much bigger share of tax revenue. It is arguing neither spending increases nor tax cuts look sustainable.

In Liverpool, the Labour mantra was about changes that don't cost much, such as bulldozing planning constraints in England. The fiscal message from the Shadow Chancellor Rachel Reeves, is that change can be funded by getting more tax out of rich foreigners and VAT on private school fees - in other words, someone else, probably not like you.

And so the tax and spend roadshow reaches the northern parts of Aberdeen, feeling the cold blasts of both Arctic air and further constraints ahead.

The previews of Humza Yousaf's first leadership speech to his autumn conference, on Tuesday, suggest he wants to put the economy "front and centre" of the case for independence, but also show that he's returning to one of Holyrood's favourite habits, of distributing more cash to the NHS.

The first part of that will be worth watching: the economic case for independence has been where its opponents have sought to focus their attacks, because that's where they sense weakness.

"Improved living standards" are on offer. That much has long been asserted, but not so much about the connection between independence and faster economic growth, or explaining which levers get pulled to make it happen.

Higher or lower taxes? More or less regulation? A bigger or smaller state? The thrust of the argument of late has rarely gone much further than 'other countries can, so why not us?'

Whatever the rhetoric in Aberdeen, it is nearer term decisions on taxation and spending which are likely to dominate Bute House cabinet thinking for this winter. They are looking at the long legacy of Covid, at inflation squeezing public services, and signals from the Chancellor and Treasury suggest their block grant will be even tighter than previously thought.

The recent mid-year changes to this year's budget have provided a glimpse of what may be to come when finance secretary Shona Robison has recovered from Covid and returned to the file marked 'budget planning' with only two months until publishing it in draft.

Re-instating a cut to the arts and culture budget, after it had previously been removed, was a politically painful way to send that message.

It's long been puzzling why the SNP has not chosen to get more Scottish identity bang out of relatively small amounts of cultural buck.

The Scottish Parliament's research service noted earlier in summer: "There has been a long-term trend of reducing real terms spend on culture in some areas of Scottish government funding and local government... spending on culture has not been a budget priority".

The queue for more funds is long and loud. The continuing pay battle with school staff is one of several brush fires in public sector pay which can be extinguished with settlements, but within a tightly constrained spending envelope, these come at growing cost to others.

Councils are often on the front line of these battles and cuts, but they will seek to share that challenge with Scottish ministers. North Lanarkshire's decision last month to shut 39 community facilities including leisure centres and libraries was reversed early this month, but that surely won't be the end of the story in that council area or elsewhere.

On the conference agenda for Aberdeen are reminders of the profound problems affecting island transport, and pressure from north-east branches to make good on the promises to improve its road network. In his speech, Humza Yousaf is pledging big funds to reduce NHS waiting lists.

There are ever more strident warnings about policing levels. Colleges are looking at redundancies, with limited hope they can avoid sackings or sharply reduced course options.

That is one of the sectors on which Audit Scotland, the official spending watchdog, has issued numerous warnings about unsustainable finances. Its boss, the Auditor General, is now issuing warnings about warnings, seemingly in the hope that they will, eventually, be heeded.

A recent blog set out Stephen Boyle's plans to look in further detail at the cost of reaching the Scottish government's net zero commitments, observing that the easy stuff has already been done. "The task will directly affect most Scots in a way that just hasn't been experienced yet," he wrote.

Having warned in April that targets are unlikely to be hit, he followed up with other UK spending watchdogs telling governments this will require them to work more closely together, citing the cost of disagreement over bottle deposit and return.

Next comes an assessment of the enormous task of reducing the carbon footprint of heating homes. The Scottish government's own estimate for residential and non-residential buildings is £33bn. There's a clue of what to expect in the headline on the Auditor General's blog: 'Tough decisions ahead on climate change'.

Among the easier answers is a rise in tax, using the Scottish Parliament's powers, which are limited, and mainly to income tax.

It looks easy enough - if the bills are going up, whack up the revenue. And as the first minister has made clear, those who can contribute most should pay more. So the discussion this autumn is about a new tax band, taking more from relatively high earners.

One independent group of advisers to the Scottish government, the Poverty and Inequality Commission, is looking to a widening of Holyrood's tax net, to include income from wealth, and a closer look at the possibilities for a direct tax on wealth itself.

One of its commissioners, Alex Cobham, says: "Tax is our social superpower. It allows us to do a variety of things to live in a better society, a more equal and inclusive society, and lead better lives.

"Although progress has been made towards reducing poverty and inequality in Scotland, with the likes of increasing the Scottish Child Payment to £25 per week, we need to see more action from the Scottish government on tax if it is to deliver on its ambitions to meet the 2030 child poverty targets and help all those who are trapped in poverty."

While a panel of external advisers mull Shona Robison's options in private, the Fraser of Allander Institute has run the numbers on two proposals put forward for a new tax band, and poured a lot of caution over the claims being made for them.

One is from the Scottish Trades Union Congress, with the idea of taxing 44 pence in each pound earned between £75,000 and £125,000 - the latter being the rate at which the highest rate is levied.

It's claimed this could raise £88m next financial year. But that's a 'static' estimate, assuming taxpayer behaviour does not change in reaction to the higher tax rate. Some people, however, would not be static. They would choose to reduce their working hours, and some would have more incentive to take earnings in forms that are taxed at lower rates by the UK Treasury - for instance, in dividends on business profits.

To a lesser extent, the Allander economists at Strathclyde University say the Scottish government should expect some people to withdraw activity from the economy altogether - for instance, if a second home owner removes her holiday home from the rental market.

In the first year, that £88m tax take is forecast to decline to £56m. After five years of more people being caught by the £75,000 tax threshold and also more people responding to it, the static tax revenue estimate of £119m becomes £77m.

Another proposal comes from the Institute of Public Policy Research in Scotland, a left-leaning think tank arguing for more progressive taxation. It would like to see higher tax at 45p in the pound on earnings above £58,000.

Assuming no behavioural effects, that could bring in a handy £231m next year. But with those effects, Fraser of Allander estimates revenue of £161m. In the fifth year, with thresholds retained, a static tax estimate of £313m becomes £220m when people have responded.

Note that very little of this effect seems to be forecast from people choosing to leave Scotland, which tends to be the way behavioural effects are debated. And much of the modelling of this is close to the estimates made by the Scottish Fiscal Commission, which will be telling Ms Robison about the revenue she can expect if she opts for additional tax take from higher earners.

It has already pointed out that the extra revenue from higher income tax rates is offset by a relatively weak tax base, meaning ministers do not have the extra clout they seek. There's a case, therefore, for strengthening the tax base - for instance drawing high earners into Scotland or doing less to alienate them.

There's an electoral calculation in this. How many people would be affected from such tax increases, and how much does it matter? The STUC proposal is seen as affecting 161,000 payers, or 6% of those people paying income tax in Scotland. The IPPR option would draw in 234,000, or 10% of the total.

Shona Robison could gamble on those people being willing to pay more in exchange for better public services and a fairer outcome with a stronger social contract. Or the deputy first minister could gamble on those people being politically dispensable.

They're less dispensable where these people are the doctors that NHS Scotland needs to retain and recruit. But many of those people are at senior levels of Scottish business. And that's where the budget choices encounter another part of the fiscal and political jigsaw.

Humza Yousaf has set out to have a New Deal with Business. Expect to hear more about it this week. It saw some policies jettisoned soon after he took office, but the love-bombing was less evident when tourism groups were campaigning, unsuccessfully, to pause and rethink the licensing of self-catering and bed and breakfast businesses.

Business responds not only to tax structures but to tax trends. If directors can see more is going to be demanded of high earners in future, it is a disincentive to invest in Scotland and grow a business.

Business leaders are warning of other indications that higher tax bills will weigh on corporate profit. David Lonsdale, of the Scottish Retail Consortium, wrote in The Herald recently about Scotland's political parties edging towards more powers for councillors to wield, both to improve council revenue and local accountability.

A tourist tax, or transient visitor levy, is already on the way, with the industry demanding that it has to be spent on improving circumstances in which they operate.

Workplace parking charges are an option. Council tax faces an increase in bills paid by those in more valuable homes (on a valuation now an increasingly absurd 32 years out of date).

Critics of council tax, also because it is regressive and loads a relatively high burden on to lower income households, want to see it replaced rather than tinkered with. Mr Lonsdale warns his members of Scottish Greens' intentions along those lines.

He also warns of change to business rates. These are already seen as a heavy burden on bricks and mortar businesses which compete with much lower-taxed digital firms, notably in retail. But what if councils took charge of setting them? The retailer representative looks to the experience of that in Northern Ireland, and sees councils taking the opportunity to raise business rates steeply. Their primary interest is in balancing the council books, less in growing the economy.

Do such tax increases fit with the intention being set out by the SNP leader at his Aberdeen conference to focus on the economy and raise standards of living?

Probably not. Getting the books to balance isn't so difficult, if you pull some tax levers, hope for the best, and ignore the impact on economic growth and investment prospects.

But higher tax bills for households and for businesses are rarely, if ever, associated with improved prospects for economic growth - unless other measures can be deployed to spark life into Scotland's stalled economy.