Scrap VAT on energy now and claim a Brexit dividend

Almost two years on from the biggest collapse in three centuries, the UK economy has finally returned to pre-Covid levels.

New figures show GDP grew 0.9pc in November off the back of strong retail sales and buoyant construction, much faster than broadly expected. The British economy is now 0.7pc bigger than in February 2020, the month before lockdown began. On paper at least, the UK has “fully recovered” – just.

We’ve taken our time – not least as the UK’s outward-facing, service-driven economy was hit particularly badly by 2020 lockdowns, our GDP plunging more than any other advanced economy. US and Swedish GDP returned to pre-pandemic levels last spring. China’s “full recovery” took just a few months – ironic, given the origins of Covid-19.

Having fallen so far, though, the UK has enormous scope for economic bounce back – one reason the International Monetary Fund says British growth will outpace other G7 nations in 2022.

But there’s no guarantee. While growth was strong in November, when December figures are published we may see GDP shrink again – given the impact of recent “Plan B” restrictions designed to contain omicron, not least on travel and hospitality.

Growth could remain sluggish, too, during the first few months of this year, with pandemic-related supply chain bottlenecks and persistent labour shortages easing only gradually.

Some 3pc of UK employees are now off work due to Covid symptoms, self-isolation or quarantine. That’s the most since June 2020, the height of full lockdown – which, for now, will almost certainly hold the economy back.

In his Autumn Budget, Chancellor Rishi Sunak adopted growth projections from the Office for Budget Responsibility – forecasting GDP expansion of 6.5pc in 2021, followed by 6pc this year, assumptions underpinning pretty much every other budget estimate.

If growth turns out faster than forecast, tax receipts will be higher and benefit spending less, flattering the public finances. Slower growth, conversely, means the fiscal position gets worse.

Consider, then, that the UK economy – full of resilient firms and enthusiastic consumers – has probably outperformed during 2021, even if some growth is reversed in December. The statistical bounce back is such that, when full-year data is available, we could see 7-7.5pc growth during 2021, outpacing the 6.5pc Budget forecast.

That means more tax revenue, with the House of Commons Library projecting VAT receipts alone some 2.4pc higher than Sunak’s prediction – an additional £3.2bn. Such a windfall highlights a dilemma now facing the government, a choice made more urgent by the latest “partygate” scandals and the Prime Minister’s plummeting popularity.

In terms of topics now dominating Westminster politics, the “cost of living” squeeze is second only to boozy lockdown parties. The assault on living standards will be most obvious in April – as inflation combines with a raft of new tax rises and spiralling household energy bills, reflecting a higher energy price cap.

The following month sees local elections which, assuming he’s still Prime Minister, could make or break Boris Johnson. All the more reason for the Government to soften the upcoming cost-of-living triple whammy.

Last year, Sunak announced that national insurance will rise for employers and employees, costing those on average wages around £300 per year. Tax thresholds will also be frozen, dragging more people and income into the basic and higher-rate tax brackets.

With the Tories behind in the polls, some ministers want these incoming tax rises scrapped – which in my view won’t happen. The April tax hikes will reap £12bn-15bn a year.

Reversing those would leave a huge hole in Sunak’s budget, which the Chancellor would staunchly resist at a time when the Prime Minister is too weak to force him.

The really big shock this April will be utility bills – as the energy price cap is lifted, so energy companies can charge households more. Soaring wholesale gas prices means the average household utility bill of £1,277 is set to exceed £2,000 – a massive £700 increase that will hit millions of ordinary families hard.

Little wonder high levies charged on household energy use diverted towards renewable energy industries are coming under serious scrutiny. Around 25pc of utility bills now comprise such “green subsidies” – with the income of hard-working households being channelled elsewhere, not least huge landowners hosting sprawling windfarms.

Many Tory backbenchers, disdaining Johnson’s “net zero” agenda, now want such levies abolished. I can’t see that happening – at least not in time to ease the April cost-of-living pinch-point, ahead of those vital elections in May.

Another way to cut bills would be to extend cheap government loans to cash-strapped energy companies – many of which are suffering, with wholesale gas prices above what the current price cap allows them to charge. Some 25 energy providers have already gone bust, reducing future scope for much-needed competition.

Ministers are now actively considering this strategy, but I’d urge caution. Loans will be hard to recover as and when more energy companies fold, with others insisting on no liability in return for taking on the customers of failed providers.

And how about “moral hazard” – with the energy firms now in most trouble being those which reaped massive profits when wholesale prices were low?

More prudent providers “hedged” – locking in gas for future delivery at prices which previously looked a bit toppy but are now super-cheap, settling for lower margins in favour of future security. Such behaviour should be encouraged. Providing cheap loans for profligate firms would achieve the opposite.

Scrapping VAT on household energy bills during these winter months and into the spring would cost around £2bn, less than Sunak’s 2021 VAT windfall. Now we’re outside the EU, and fully control our own taxes, fuel can be zero-rated instantly – allowing Johnson to present the cut as a Brexit dividend.

While VAT on energy bills is just 5pc, that’s over £100 on a £2,000-plus bill – which is worth having. And while there is no guarantee energy firms would pass on the full VAT reduction, if ministers move fast, the regulator Ofgem can include the tax cut when setting the April price cap, due to be announced on February 7.

Our beleaguered Prime Minister, for all his current troubles, retains his nose for a vote-grabbing slogan and a popular cause. He could do worse than “Scrap the VAT”.

Follow Liam on Twitter: @liamhalligan and listen to Planet Normal, his weekly podcast with fellow columnist Allison Pearson, featuring news and views from beyond the bubble, using the audio player below, Apple Podcasts, Spotify or your preferred podcast app.