Discussants: Dr Alessandro Mennuni, Dr Michael Hatcher, Dr Serhiy Stepanchuk, Dr Thomas Gall. Distinguished Professors of Economics specialising in Fiscal Policy, Monetary Economics, Endogenous Growth Theory, and Public Economics, respectively.

Moderators: Dr Chiara Forlati, Dr Panagiotis Giannarakis.

What was the underlying macroeconomic rationale behind the Mini-Budget?

In short, an attempt to boost economic growth; generally perceived as a well-attuned recognition that economic growth in the UK is suffering. The economy exhibited persistent scarring effects from the 2008 financial crisis, with GDP growth significantly lagging behind other G7 nations and deviating substantially from its pre-crisis trend path. The post-Brexit era (post-2016) has been characterised by particularly subdued economic performance relative to G7 peers. The policy framework encompassed extensive planning law reforms aimed at ameliorating infrastructure bottlenecks and stimulating private capital formation, while implementing deregulatory measures to enhance corporate operational efficiency. Much of the policy looked to reform planning laws, spurring infrastructure and business investment; deregulating the corporate decision process.

Conversely, given the UK’s relatively modest debt-to-GDP ratio (second lowest among G7 nations), there existed untapped fiscal space that could be strategically deployed. By raising the interest rate and selling BoE bonds to unwind QE, we enact Expansionary Fiscal Policy and potentially provide support for election season in two years’ time. This combination of monetary tightening through interest rate normalisation and quantitative tightening (QT) via gilt sales created conditions conducive to political dividends in the short time Truss would have to enter the good graces of the public.

Here, there is an argument that growth shouldn’t be the target when it is at all costs. With a disproportionately financial-sector economy, the ‘scarring’ may instead be simply a natural part of the business cycle. There has been a convergence of demographic factors (female labor force participation, tertiary education enrollment) that can be attributed to some of the deviation from the pre-2008 trajectory. Trying to force growth in a system that is already efficient may have unforeseen consequences. Brexit is an example of this.

There may be slight expansionary policy benefits, but are the tax-cuts an adoption of ‘trickle-down economics’?

The reduction in the basic rate of income tax from 20% to 19% generated positive income effects for lower-earning cohorts up to the £50,000 threshold. But this attempt to broaden the lower rate of income tax was in contrast to the larger portfolio of policies enacted by the mini budget, which was generally a different direction to the redistributive policy introduced by the government over recent years. Generally, the idea was to promote investment by making tax-cuts for entrepreneurs who create job growth. There are echoes of a purer trickle-down movement with the elimination of bankers bonuses, however.

What precipitated the policy reversal?

The government’s intervention was catalysed by severe market dislocation, with gilt yields experiencing unprecedented volatility that exceeded reactions to more substantial policy interventions during the pandemic. Yields on government securities surged from 3% to 5% with extraordinary rapidity, while some instruments lost 50% of their value within days. Given the prevalence of inflation-hedged positions among UK institutional investors, this precipitated severe mark-to-market losses and triggered margin calls. The government’s response involved £5 billion in secondary market purchases of long-dated gilts, with potential losses fully indemnified by HM Treasury. This eased markets and gilt yields declined in the short term. When the BoE announced they would stop buying bonds, the government announced they would do a full U-turn (else market sentiments would have plummeted).

There are positives and negatives of a U-turn; the mini-budget may have set the UK on an unsustainable path in accruing debt. While there was capacity, this would have lead to higher taxes in the future, which is negative for long-term spending and freedom for policymakers. However, many of these effects could have been mitigated through more gradual implementation of tax reforms. A complete reversal risks undermining public confidence in the government’s capacity for prudent policy formation. Furthermore, the implementation of price controls in energy markets has introduced additional market distortions.

TL;DR:

The policy was rather well-motivated, but the execution (planning and timing) was far from ideal, due partly to communication issues between the government and the Bank of England. When markets reacted badly, the U-turn was a good decision, but the government must be mindful of the debt it has on-boarded as a result. A portfolio exists that combines the good economic motivations, and coupled with strong execution this portfolio would stimulate investment into the UK.