Budget 2025: Fiscal deficit or democratic deficit?
A largely cautious Budget raises questions about how and why bolder ideas for UK tax reform were shelved – not least because the wealthy are clearly not making the contributions that they should be
This article was originally published on the London School of Economics inequalities blog at https://blogs.lse.ac.uk/inequalities/2025/11/27/uk-budget-2025-fiscal-deficit-or-democratic-deficit
In the end there were no screams on Budget day from the wealthy about being forced to leave Britain under the shadow of an intolerable tax burden, no one pulling the lever on their carefully prepared plans to relocate to Dubai or Monaco. There was no need; the argument had already been won, the seeds having been carefully sown in a piece of LinkedIn analysis about “capital flight” of such obvious shoddiness that its authors subsequently retracted some of its language, albeit after their findings had been gleefully reported on by all corners of the right-wing press.
Yesterday’s Budget, with its “smorgasbord” of tax changes, was light on policies with real nutritional value. It was a walk across a tightrope and the Chancellor made it to the other side, even if the weeks leading up to it were reminiscent of Alan Carr’s timorous crossing of the wobbly rope bridge in The Celebrity Traitors, the frenzied kite-flying and walked-back briefings issuing from the Treasury a sign of their uncertainty and nervousness.
This is not to pin the blame on Rachel Reeves in particular. In many respects she achieved the impossible, simultaneously placating the bond markets and Labour MPs while more than meeting her fiscal rules and more-or-less staying true to Labour’s unwisely restrictive manifesto pledge not to increase the big three taxes. She deserves genuine credit for ending the scandalous two-child benefit cap. Although this change owed something to party management as well as moral conviction, it demonstrates a willingness to be bold, to lead and persuade rather than follow the polling, to act in the collective long-term interest of the country and to explain why this is important.
Similarly, many of the tax reforms unveiled in the Budget are steps in the right direction. Increasing the council tax bills of people who own the most expensive properties is better than doing nothing. Increasing taxes on rental income and on dividend income by two percentage points fires the starting gun on redressing the enormous under-taxation of wealth compared to work.
The missed opportunity of wholesale tax reforms
However, the Budget failed to lay the foundations for the bigger tax reforms that are desperately needed. Our tax system is so broken that there is plenty of low-hanging fruit to be plucked, and yet the Chancellor has chosen not to. A set of reforms to the capital gains tax regime that are supported by most experts would have simultaneously boosted growth and reduced inequality, while making the tax system fairer and yielding more than £11 billion per year in additional tax revenues. There is plenty of scope to increase taxes on wealth before running up against trade-offs between growth (or efficiency) and revenue (or fairness).
Meanwhile, failing to increase capital gains tax rates (while introducing an investment allowance to incentivise growth), and leaving the top tax rate on dividends untouched, meant that the very rich were let off the hook, leaving the rest of the richest 10% to take the hit through higher tax rates on property income and smaller amounts of dividend income. Likewise, the income tax thresholds freeze lets the top 1% off the hook. Similar arguments could be applied to other policies that were mooted but ultimately left out of yesterday’s Budget, such as a windfall tax on banks or requiring partnerships to pay the equivalent of employers’ national insurance.
Why were these broadly supported reforms left out of yesterday’s announcements? Part of the problem is that we don’t really know. The way in which Budgets are designed and decided is universally derided, other than by the lobbyists for whom the opaque and chaotic nature of the process is an unalloyed blessing. We can debate the optimal rate of a particular tax and about who should be paying it, but open discussion is hard when decisions are made behind closed doors.
As such, the suspicion is that arguments within the Treasury and across government are won not by those with the most compelling evidence, but by those with the most powerful backers and the deepest pockets. Witness the ridiculous way in which arguments about “capital flight” were paraded through the media despite the obvious evidence of their falsehood. Or how groups with vested interests in preserving the status quo were able to dominate debates last year about reforms to the non-dom regime and to the carried interest loophole for private equity executives, leading to the latter change being excluded from that year’s Budget.
The urgent need to tackle the unfair influence of those with vested interests
This points to a broader malaise in Britain, that decisions are made in closed fora into which the public has little oversight and over which they have no control. The exact mechanisms by which financial wealth translates into political power, such as through fierce lobbying against proposed reforms to increase taxes on the wealthy, are deliberately opaque. But the fact that this undue influence on policy decisions is exerted is not only transparent – it is obvious to all.
Meanwhile, people are told that there is still no alternative to a system that allows public services and living standards to crumble at the same time as more and more of our wealth accumulates at the top of society. In the UK as in other countries, this fuels first mistrust and apathy, then a sense of disgust and anger that is pushing millions of voters into the hands of populists who offer simple diagnoses and apparently easy answers. In a country defined by very unequally held wealth, the ability of the wealthy to frustrate sensible policy backed by the public is not just a major problem for our economy, it is also a disaster for our democracy, because it appears to confirm what many people already believe – that the country is run in the interests of an unaccountable elite.
If Reeves and Starmer have the political will to abolish the two-child limit, they should be able to muster the same boldness for reforming the tax system. The challenge is all the more urgent because of the inevitability of further tax rises in the future to fund the increasing demands on public services and on a whole range of other priorities, not least defence spending. While tax revenues will reach 38% of GDP by 2031, this is still well below the 43-44% tax-to-GDP ratios that we see in other OECD countries like France and Denmark. Middle earners are not that highly taxed compared to other countries, and the reality is that they are likely to need to pay more tax in the future. Taxing the very wealthy alone will not generate the revenues that we need.
That said, it is difficult for any government to ask middle earners to pay much more while the wealthy are clearly not making the contributions that they should be to our tax system. This year’s Budget was the opportunity to lay the political groundwork for broader tax rises by showing that the wealthy are being asked to pay more, but the opportunity has not been fully grasped. As the Tribune Group of Labour MPs put it yesterday: “Future tax reforms must aim for simplicity, sustainability, and fairness – ensuring that hard work is rewarded, unearned income and wealth are taxed more consistently, and those with the broadest shoulders should continue to contribute proportionately to national renewal.” If lobbying by the wealthy is what is getting in the way, then we need to find ways to dilute its power, or we will all pay the price.