Liz Truss: four big decisions to watch out for

As Liz Truss takes her place as the new prime minister, Alice Guy examines four tax, pension and spending decisions to watch out for over the next few days.

So, after months of waiting we finally have a new prime minister. And she wakes up to one of the most difficult inboxes on record with soaring energy bills, rocketing inflation and a threatened recession in the new year.

1) Energy price cap

It will come as welcome relief to many of us that Liz Truss is reportedly planning a freeze on the energy price cap at around £2,500, slightly higher than the current level of £1,971: scrapping the eye-watering expected price cap increases to £3,549 in October and over £5,000 in January.

Wholesale gas prices are currently trading at five times the level of this time last year. And there’s no sign that prices will come down any time soon, as the Ukraine conflict and the squeeze on gas supply continues.

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If the freeze goes ahead, the British public can breathe a collective sigh of relief and will have more spending money this autumn and winter.

But, as always, the devil is in the detail. Whether the price cap freeze is paid for by energy companies or added to government debt could have an impact on financial markets. And small business owners, not currently covered by the energy price cap, will be desperate to know the details of a rumoured £40 billion support package.

We also don’t know yet what will happen to those who’ve already decided to fix their energy prices at a much higher rate than a current cap.

2) Tax cuts

Tax cuts were a key pillar of Liz Truss’s summer leadership campaign, with planned reductions in National Insurance, Corporation Tax and possibly VAT.

Her plans would reverse the recent National Insurance increase (hiked from 12% to 13.25% in April 2022), saving someone earning £30,000 around £235 per year and a high earner on £100,000 around £1,093 per year.

Truss also plans to scrap the planned rise in Corporation Tax: due to increase from 19% to 25% in April 2023. This will save a business with taxable profits of £500,000, £30,000 per year and a business with taxable profits of £500,000, £120,000 per year.

With most economists now predicting a UK recession in early 2023, sources suggest that Truss is also considering lowering the rate of VAT from 20% to 15% to provide an economic stimulus and help boost consumer spending.

But it’s possible that all or some of these tax cuts won’t go ahead. Critics argue that tax cuts could trigger even more inflation, leading to higher interest rates in an attempt to bring inflation to heel. Others believe that reducing government revenue is unaffordable at a time when the government plans to increase spending on energy support.

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3) State pension triple lock

This year, the state pension triple lock was suspended, as the link with average wages was severed. That meant the state pension rose by only 3.1% this year, rather than 8%, saving the Treasury an estimated £5 billion.

The triple lock has been reinstated for next year and will be tied to the highest of CPI, average wages or 2.5% and Liz Truss is currently committed to keeping the triple lock for two years. This means the state pension could increase by 13% or £24 per week: it's based on September CPI figures, released in October.

But, it's an expensive policy and there are rumours that she is coming under pressure to drop the triple lock.

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4) Fiscal policy

The incoming chancellor will need to find funding to pay for the price cap freeze, tax cuts and increase in state pension. But with the national debt at record-breaking levels, they will have limited tools at their disposal.

Bloomberg reports that energy price cap support could cost as much as £130 billion over the next 18 months, with a further possible £40 billion cost for the planned business support package. And increasing the national debt at a time of rising interest rates is not a straightforward solution as interest costs affect the government as well as consumers.

Deutsche Bank says that: “The new UK government is at a crossroads. Policy announcements over the next few weeks will be key in determining the risk of extreme macro outcomes in the UK and the pound.

“With the current account deficit already at record levels, sterling requires large capital inflows supported by improving investor confidence and falling inflation expectations. However, the opposite is happening. The UK is suffering from the highest inflation rate in the G10 and a weakening growth outlook. A large, unfunded and un-targeted fiscal expansion accompanied by potential changes to the Bank of England's mandate could lead to an even bigger rise in inflation expectations and - at the extreme - the emergence of fiscal dominance,” as a high level of government debt makes it increasingly difficult for central banks to target inflation.

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Importance of investment diversification

For investors, the problems facing the economy this winter are a timely reminder of the importance of diversification. The US, a net exporter of coal and natural gas, looks arguably more likely to weather the storms of the global energy crisis. And there are signs that the recession could be less severe over the pond.

Azad Zangana, senior European economist and strategist at Schroders, comments that: “We expect the US economy to slip into recession over the first three quarters of 2023, with economic output set to contract by 1.9%, before returning to growth. To highlight how negative this forecast is, the fall in output means the country’s economy contracts by 1.1% for all of 2023, compared to consensus estimates of positive growth of 1%.”