Kristy Dorsey: Tories' extraordinary economic pantomime is no plan at all

“Oh, yes we will,” replied Prime Minister Liz Truss, but not for long. Someone should have warned the Chancellor – “She’s behind you!” – as Ms Truss opened the Conservative Party’s autumn conference on Sunday with media interviews in which she claimed the abolition of the 45p rate of income tax was Mr Kwarteng’s call, and his alone.

Asked on the BBC whether the controversial plan was discussed by the wider Cabinet, Ms Truss replied “No, no, we didn’t. It was a decision the Chancellor made.”

The anti-climax came 24 hours later as Mr Kwarteng conceded defeat via Twitter yesterday morning: “It is clear that the 45p tax rate has become a distraction from our overriding mission to tackle the challenges facing our country.

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“As a result, I’m announcing we are not proceeding with the abolition of the 45p tax rate. We get it, and we have listened.”

Such a ham-fisted performance could be forgiven in amateur theatre, but is indefensible on the global economic stage.

Fiscal policy on taxation and spending that is akin to a children’s parody is no laughing matter. The Bank of England certainly wasn’t chuckling last week as it scrambled a £65 billion bond-buying programme to shore up the market as the pound plunged to an all-time low against the dollar.

Investors have taken a very dim view of the Tories’ economic stage show, raising serious questions as to whether the UK can be relied upon to pay back the billions in additional debt that will be racked up to fund the Truss administration’s strategy. Reinstating the highest rate of income tax will knock the deficit down by about £2bn but other parts of the contentious package, such as cancelling the planned hike in corporation tax, are still expected to cost in the region of £43bn in the coming year.

All of this may sound like a drama reserved to the financial elite, but it has down-to-earth impact on everyone’s lives.

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Fresh figures out yesterday show that UK manufacturing output fell for the third month in a row in September as firms grappled with a decline in new orders linked both to the UK’s cost-of-living crisis and much weaker demand from abroad. The closely-watched manufacturing PMI survey recorded the fastest decline in export orders since May 2020, when much of the global economy was shut down by Covid restrictions.

The survey further suggested that cost pressures strengthened in September, reversing the recent trend. Results showed that input cost inflation rose for the first time in five months, partly due to the weaker pound as fuel and other raw materials are often priced in dollars.

“It is tough to predict with any certainty that there could be potential improvement in manufacturing production in the last quarter,” said John Glen, chief economist at the Chartered Institute of Procurement & Supply.

“It is unlikely that supply chain managers will have hedged against the weakness in the pound, for instance, which will continue to impact on imports and what consumers will see on the shelves as the [festive] shopping season begins in the coming months.”

As manufacturers continue passing on higher costs to customers, Sterling’s weakness will also bolster the near-double digit rate of inflation which the Bank of England is trying desperately to tame by vigorously raising interest rates. To this end the Government and the Bank are at loggerheads as tax cuts by the former undermine the inflation-curbing impact of increasing the cost of borrowing, making the Bank inclined to even more aggressive rate hikes.

Gabriella Dickens, senior UK economist with Pantheon Macro, said recent fiscal measures from the Government have likely further weakened the outlook.

“Indeed, the sharp rise in borrowing costs for corporates suggests that firms will reduce investment and employment soon,” she said. “All told, then, the downturn in manufacturing output is set to extend deep into 2023.”

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The Chancellor’s enforced U-turn has at least temporarily taken some pressure off the pound, but the UK has lost credibility with international markets that will be exceptionally difficult to recover. Despite Sterling’s reserve status – those currencies held in large amounts by governments and other institutions as part of their foreign exchange reserves – there is a long way to go till confidence is restored.

Volatility will likely continue until investors get clarity on the scale of borrowing required to cover remaining tax cuts, something that won’t happen until the Office for Budget Responsibility's (OBR) independent analysis is made available. The OBR’s report is expected to be ready by the end of this week, but Ms Truss and Mr Kwarteng have said the findings will not be published until November 23.

Meanwhile, Hargreaves Lansdown senior investment analyst Susannah Streeter has questioned the current Chancellor’s continuing role in the drama.

“A big part of the questionable battle plan to try and stimulate growth is being ripped up, which may actually help calm the feverish rise in borrowing costs for companies, homeowners and the Government,” she said. “But the credibility of the Government in providing a steady hand on the tiller at a time of such economic uncertainty has been lost, perhaps irrecoverably.

“Kwasi Kwarteng is set to cut a lonely figure on the stage at the Conservative party conference…given that his Prime Minister put the blame for the fiscal bombshell at the door of Number 11. This effort at deflection could be an insurance policy, leaving Liz Truss with the option of changing tack and Chancellor in one fell swoop, a strategy which is more likely to be employed if the pound’s volatility continues in the weeks and months to come.”