Dialogue: Looking up and down for growth

HAMISH McRAE can see Gordon Brown's point, but asks is history against him?

LONDON - Britain's Chancellor of the Exchequer, Gordon Brown, thinks that increasing public spending is the best way to keep the economy growing.

US President George Bush thinks the answer lies in tax cuts.

Who will turn out to be right?

It is a touch embarrassing that the week before the UK Budget, the International Monetary Fund should say that Mr Brown's spending plans must be cut or they will force tax increases in two or three years.

The IMF has been criticising Mr Brown for some months, arguing that, though the Government has a big surplus, this is simply a function of the present burst of economic growth.

The underlying position, it believes, is not so strong - hence the warning of trouble to come.

Whether this warning turns out to be justified will depend on whether the UK economy can continue to lift its game.

The Chancellor is planning to increase spending sharply. His numbers look credible if growth can be sustained at an average 2.75 per cent a year, instead of about 2.5 per cent.

What is clear, though, is that if Britain were to run into much slower growth, even a recession, then the deficit would explode, just as it did in the early 1990s.

The question then would be: do you try to keep demand in the economy going by maintaining public spending? Or do you cut taxes?

America will cut taxes to try to stave off incipient recession there. We knew George Bush wanted to push through a big tax cut, but until this week many thought he would not get it through Congress.

The rapturous response to his speech to Congress outlining his $US1.6 trillion cuts should ensure that he can. Public approval rates shot up. A CBS poll suggested that 67 per cent of people supported his plans, and a USA Today/CNN/Gallup poll put support at 85 per cent. Americans like tax cuts.

The British don't. Or at least, they tell pollsters they don't.

Britons consistently say they are prepared to pay some additional tax if this brings better public services. Of course, in the privacy of the polling booth they act rather differently, as Labour discovered to its cost in the 1992 election.

And when they are asked directly by a local authority, as they were in Bristol, whether they were prepared to pay higher charges to put more money into education, they voted overwhelmingly against it.

If the poll is just for the media, people say one thing; if it is for real, they do something else.

Remembering the 1992 experience, Gordon Brown has been clever in disguising the extent to which he has raised taxation in the past four years - and to be fair, he has only nudged it up slightly, despite the charges of "stealth taxes" made against him.

But he has been moving in a different direction to the US and most of continental Europe.

The UK has, in general, lower tax rates than most EU countries. Ireland is the only member collecting a smaller proportion of GDP in tax than Britain. But the gap is narrowing as the single market hots up competition to cut company taxes, and the need to reward top talent drives down top income tax rates.

Germany, France, Italy and Spain are all cutting personal taxes, driven (though they would hate to admit it) by the example of the US and the UK. Now the US is moving the goalposts again.

Of course, Europe does not have to follow. Sovereign countries are free to set their own tax rates. If people in Europe, including the UK, choose to take a larger proportion of their national wealth in the form of public services, and a smaller proportion in the money they themselves spend, that is their democratic right.

In the past, there does not seem to have been a large economic penalty involved in that choice.

Extremely high taxation - more than 50 per cent of GDP - does carry costs, while very low taxes - less than 30 per cent - probably do not give a government enough money to run essential services.

Between those very wide limits there is little evidence that in purely economic terms the level of tax and spending matters that much. But that is the past, when companies were mainly national enterprises and where executives did not move about much.

Within the past 10 years has come a surge of international investment and in movements of top talent.

Gordon Brown is not going to abandon the UK's tax advantage over Europe.

Even if his sums are wrong, the IMF proves to be right, and he (or, more likely, his successor) has to increase taxes in a few years to pay for more spending, the UK will still retain some edge.

But no one really knows the answer to two questions.

The first is whether tax cuts in the US will succeed in restoring confidence and pulling the economy out of what looks increasingly like a recession. The second, longer-term one is whether the US low-tax model will become the dominant one for the world.

One key benchmark will be the top rate of income tax.

The UK and US are today towards the bottom of the scale with 40 per cent. Under Bush's proposals, this will come down to 33 per cent.

So the century is starting with a great experiment.

In the 20th century, government grew inexorably, and public spending in developed countries typically rose from around 10 per cent of GDP to 40 per cent.

Now the US seems about to push the world in the opposite direction.