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Portillo: Conservatives will Follow Five Economic Disciplines

Many of us have come to think of Britain as being a good place from which to do business. We trade on a reputation, especially relative to our continental neighbours, for low taxes, a flexible labour market, and a healthy climate for enterprise. But every day it becomes less true.

"This good reputation was not acquired accidentally, but as a result of innovative policies pursued over 18 years in many different, but interconnected, fields. Privatisation. Trade union reform. Labour market flexibility. Cuts in the rates and overall burden of tax. Over time, we acquired a world-class reputation, but I fear we are fast losing it.

"The world has not stood still during the last three years. One of the very marks of success of the British economy over the last two decades - the fact that our reforms have been taken up all over the world - has, ironically, eroded our advantage.

"Governments all across the world, and all across the political spectrum, now share the view that high and rising levels of taxation and regulation are fatal to enterprise. Most people accept that high taxes crowd out the private sector and reduce incentives for success.

"Our competitors are cutting taxes. In America, the new Bush administration is planning a $1.6 trillion tax cut: Germany, France, Italy and Spain are all giving priority to tax cuts as a key to prosperity. I'm not sure that we in Britain have fully woken up to the significance of the ground that we are losing.

"Price Waterhouse Coopers, in a recent study, showed that two-thirds of the tax advantage we enjoyed over our European competitors in the mid-1990s has now been whittled away. According to the OECD our average rate of growth over the last four years, a record which the Chancellor regards as a reason for smug complacency, has been lower than those of the US and of the Eurozone countries.

"But it is not just that our competitors are catching up. I believe that the Government's policies are now pointing us in the wrong direction, and have begun to reverse the hard won improvements in British competitiveness. Step by step Britain is becoming a less enterprising economy.

"For example, at the very time that a global consensus has swung behind tax cuts, this Government has chosen to increase the tax burden by some £25 billion a year since 1997 - that's the equivalent of 10 pence on the basic rate of income tax. Whatever Mr Brown does next Wednesday in the Budget, the tax burden will be much higher at the time of the next election than it was when Labour came to power. And if Labour were to continue on their current spending path, which outstrips the trend rate of economic growth, sooner or later taxes would have to go up again.

"According to the CBI, the Government has, so far, added an extra £5 billion a year in taxes on business. There is always pressure on governments to address political concerns by imposing new regulations on businesses. But this Government seems to have let out all the stops, introducing 3,865 new regulations in last year.

"We need a new approach if we are to keep Britain competitive. That approach needs to be based on discipline at the macroeconomic level, and finding ways to free businesses to make their own decisions.

"Today, I want to restate that in Government my party would follow 5 key disciplines that will help to improve UK competitiveness by giving room for tax cuts and placing Britain's macro-economic framework on a footing that will build long-term confidence both from our own firms and foreign investors.

1. Maintaining our own currency

"First, we will retain our own currency. It is fundamental to a clear economic policy for a Government that businesses and overseas investors should know for the course of that Parliament what currency they will be working in, and whether or not Britain will follow an autonomous monetary policy suited to domestic conditions. Yet the Government will not say whether or not they would recommend joining the Euro in the next Parliament. This is a glaring gap at the heart of their economic policy. Our Party is clear: we will keep the pound, and interest rates will continue to be set in Britain, reflecting economic conditions in Britain.

2. Independence of the Bank of England

"Second, we will maintain the Monetary Policy Committee of the Bank of England, but enhance its independence; the MPC has had a good start and comprises good people, but it is fair to say that its mettle has not yet been tested in difficult conditions. I want to make sure that the Committee is able to be robust to political pressure, for example by making its members` terms of appointment last for longer than a parliament. I would like its role as a force for transparency to be enhanced by encouraging it to comment on any discrepancy it might perceive between monetary and fiscal policy.

"I would like to make one further announcement about the next Conservative Government's approach to monetary policy today. The report of the Bank of England Commission that was set up by my predecessor Francis Maude and published a report in April 2000, said that 'if inflation falls, for any significant period below 2.5 per cent without significant cost to the Government's growth and employment objectives, the target itself should be reduced' (page 17).

"Inflation has now been below 2.5 per cent since April 1999.

"There is growing evidence that this is a structural rather than a temporary phenomenon. Manifestly, if that is the case, it would be in the national economic interest to reduce the inflation target in order to lock-in long-term low inflationary expectations.

"I believe it may, therefore, be time to reconsider the 2.5 per cent inflation target and reduce it to, perhaps, 2 per cent. That is why I am today asking John Flemming, the former Chief Economic Adviser to the Governor of the Bank of England and a member of our Bank of England Commission, to consider this question and to report back to me so that his view is available to us when we assume office.

3. A Council of Economic Advisors

"Our third discipline will be to establish a Committee of Economic Advisers to act as a watchdog which will oversee the appropriateness of the government`s fiscal stance. Monetary discipline is not enough to build an external reputation for sound macroeconomic management. There must be fiscal discipline as well.

"This Chancellor of the Exchequer has done little to build up confidence that he can be trusted accurately to present the fiscal balance. He has disguised tax increases, and described certain items of public spending - such as payments under the working families tax credit scheme - as though they were reductions in tax, and has been criticised for it by both the OECD and the Office of National Statistics.

"The Chancellor claims to have two fiscal rules. The first, the sustainable investment rule, is not much mentioned these days, and the reason for that is that the precise description of the rule makes it clear that it isn`t much of a rule at all, since it merely states that 'other things being equal', a reduction in public sector net debt to below 40 per cent of GDP over the economic cycle is desirable". The qualification other things being equal makes it a far from rigorous rule.

"The second fiscal rule is the so-called golden rule. This states that over the economic cycle the government will borrow only to invest. It has been reported in the last few days that the IMF has privately been highly critical of the Golden Rule. It's not difficult to see why, because without any definition of investment and with no limits on that so-called investment, the rule doesn`t translate into any sort of discipline at all. The government`s spending review proposes raising `net investment` to 1.8 per cent of GDP by 2003/4 and envisages that it could remain at this level thereafter. If net investment were to be 1.8 per cent of GDP in each year of say, a seven year cycle, then the government could borrow £160 billion without breaking the rule. If the government were to interpret investment as including all capital spending, then the figure for permitted borrowing would rise to £300 billion. Now, of course, Gordon Brown has taken to calling all Government spending 'investment', making it even less clear as to what is actually meant by his rules.

"Clearly, the Chancellor's two much-bruited rules are not half as rigorous as he likes to claim and in fact impose hardly any discipline on him at all.

"They suffer from another fatal flaw, which is that they offer absolutely no constraint on the amount that Government can tax and spend. If you think about it, the Chancellor would meet his bogus rules even if current public spending rose to 50 or 60 per cent of GDP, so long as taxes rose equally rapidly to cover the gap. Never mind that the economy would be ruined and the private sector 'crowded out' completely if such action was taken - the Chancellor could quite honestly say that he had met his fiscal rules. I think it is time that Gordon Brown admitted that his only real fiscal rule is to increase taxes by whatever it takes to cover the latest spending splurge he has embarked upon.

"The British economy in the 21st Century needs better than this. What is needed by way of effective discipline is a rule to control public spending so that taxes can come down and rigorous peer group review of the Government's tax and spend policies. Nothing could give greater confidence to the conduct of policy than for a Chancellor willingly to subject himself to public review and commentary by independent experts appointed, like the MPC, after a suitably transparent procedure. Like the MPC the Committee of Economic Advisers would publish minutes of their proceedings and be invited to comment on the consistency of fiscal and monetary policy, but their prime task would be to give a published opinion on the appropriate level of fiscal surplus or deficit.

"The Chancellor would not be obliged to act in accordance with the Committee`s views, but clearly their opinions would carry weight and apply pressure, perhaps especially if over time its track record looked superior to the Chancellor`s.

4. A National Accounts Commission

"Fourth, we will appoint a National Accounts Commission to draw up proper national accounts, including a proper presentation of the government`s long term liabilities; in my view there can be no discipline worth the name unless it is founded on transparency, and this includes absolute precision about the national accounts. This precision has been lacking under the present Chancellor. As yesterday's Financial Times put it: 'for someone who repeatedly lectures other countries on the benefits of transparency, Gordon Brown is too fond of obfuscation … in many respects, Mr Brown has reduced Budget transparency to a new low'. It is wrong, and undermines Britain's economic credibility, that the government should be free to redefine essential pieces of information such as what counts as public spending and what constitutes a tax. This should not be a legitimate area for political interference, and it will be taken beyond this possibility by the new Commission.

"The National Accounts Commission members would be drawn mainly from the accountancy profession, and their appointments would be handled through a transparent procedure. The creation of the Commission would add powerfully to the credibility of government information about the economy, and remove from the Chancellor any temptation to deceive himself about the balance of taxation and spending.

5. Government spending to rise within the underlying growth rate of the economy

"Fifth and finally, we will restrain the growth of public spending to within the trend rate of growth of the economy as a whole, so that there is a strong bulwark against the government crowding out private enterprise. This is the only genuinely sustainable policy that a government can pursue. Control of public spending is the essential pre-requisite for sustainable tax cuts. Because we have a rule that will keep public spending growth within what the nation can afford whereas Labour have no rule for controlling public spending, we can offer the prospect of tax cuts which Labour will never be able to match. Tax cuts paid for by reforms to Government spending that Labour will not make come on top of any tax cuts that they are able to offer in a pre-election Budget.

"Governments across the world can no longer count on being able blatantly to increase the tax burden on their people, as the protests across Europe against the level of tax on petrol and diesel showed. An awareness of this resistance is why the present Government has resorted to disguised increases in taxation - its stealth taxes. But even these possibilities will be detected over time, and my policy of transparency will improve people's ability to perceive exactly what the tax burden is.

"Within these five clear disciplines, a Conservative government would pursue an imaginative and sensible programme of reforms. Our disciplines will greatly increase the transparency of government decision-making and will significantly increase the discipline under which a Conservative Chancellor would perform.

"And we will also help businesses directly - for example by abolishing the Climate Change Levy which the Government is proposing to introduce on April 1st and which would erode the international competitiveness of many businesses. We will also repeal IR35, Labour's stealth tax on entrepreneurs.

"I know that excessive regulation by Government is the bane of many business people's lives. Within the first years of a Conservative Government will begin to reverse this riptide of red tape. Let me give just two examples of immediate reforms we would make to achieve this:

"We would give departments regulatory budgets, capping the total cost to business of Government regulation. As we reduce these regulatory budgets, the cost of regulation will come down. This cap on the level of regulation will be bolstered by the introduction of sunset clauses, wherever appropriate, so that regulations are automatically dropped or reviewed after a specific period.

"It is fashionable to think that there are no policy issues left to fight over in Britain today and that, as a result of earlier reforms, Britain is set fair to prosper in the international economy for the foreseeable future.

"That would be to delude ourselves. The fact is that Britain's competitiveness is already on the wane and if we continue in the policy direction in which current policies are taking us, we will fall further and further behind our competitors. The issues facing us are of colossal importance. Labour and Conservatives policies are sharply different on whether to keep our own currency, whether to tax more or less, whether to give an increasing role to the state, or to personal choice.

"This is no idle academic argument; at stake is the competitiveness of our country, on which our prosperity and public services depend. For four years, Labour have been taking Britain in the wrong direction. In today's global economy, the only way forward lies in cutting taxes and regulations, in retaining flexibility over our economic policy and in funding our public services in a way that is sustainable. That is an approach underpinned by discipline. That is the approach that we will follow.

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