A TAXING TASK COMBATING BRITAIN S RELATIVE DECLINE IN THE

A TAXING TASK: COMBATING BRITAIN'S RELATIVE DECLINE IN THE 1960s HUGH PEMBERTON British Academy Postdoctoral Research Fellow London School of Economics Department of Economic History Room C515, Houghton Street London WC2A 2AE United Kingdom. Telephone: +44 (0) 20 7955 6264 Fax: +44 (0)20 7955 7730 Web: hughpemberton.org.uk Twentieth Century British History, vol.12, no.3 (2001), pp.354-75 A TAXING TASK: COMBATING BRITAIN'S RELATIVE DECLINE IN THE 1960S Abstract The 1960s was a particularly rich period in the history of UK tax reform. The decade also saw an ambitious attempt by the UK government to reverse Britain's relative economic decline via the adoption of a 'Keynesian-plus' package of enhanced demand management, incomes policy and indicative planning. This paper argues that the two phenomena were closely related. It argues that the new Keynesian-plus policy framework transcended party ideology and led both the Conservative government and its Labour successor to use the tax system in a constructive attempt to intervene in the economy to try and raise growth. Nevertheless, despite a high level of elite consensus on the need to make the tax structure more growth-oriented, and despite a good deal of policy continuity between the two governments, viewed as a whole the changes that were made lacked coherence. A combination of Britain's adversarial party system, a tradition of secretive government policy-making and the profound fragmentation of British policy-making institutions made it impossible to devise and implement a strategic programme of reform. Acknowledgements I am very grateful to Rodney Lowe and Mark Wickham-Jones for their advice, and to both them and Martin Daunton for their constructive criticisms of earlier drafts of this paper. Any errors in this final version are, however, my responsibility alone. The research for this article was carried out under ESRC award number R00429734705. A taxing task: comb3 7ng Britain's rel3 7vetun7ng'. A taxing task: combating Britain's relative decline in the 1960s 2 higher growth without triggering higher inflation. Thirdly, taxation became an essential tool for both attaining higher economic growth and promoting the greater social justice that seemed essential if workers were to curb the wage demands that higher growth would promote. Changes to taxation were also seen as fundamental to ending the debilitating fluctuations in output which the stabilisation policy of the 1950s appeared to have precipitated.7 Nevertheless, the article concludes that, whilst the new Keynesian-plus approach led both governments to implement growth-promoting new taxes, the project lacked coherence when viewed as a whole. That this was the case was not so much a product of the two-party system, as Steinmo argued, as a by-product. Despite a high level of elite consensus on the need to make the tax structure more growth-oriented, a combination of Britain's adversarial politics, the secretive nature of its government and its fragmented policy-making institutions made it extremely difficult for politicians to discuss far-reaching changes to the tax system, let alone construct a strategic programme for tax reform that transcended party boundaries. The consequence was that tax policy was driven not by politicians but by technocrats working behind the veil of budget secrecy. Although the technocratic project was pursued within a positive political agenda under both governments, without a clear political mandate it proved extremely difficult to defeat vested interests and implement it coherently. Instead, policy was implemented piecemeal. Some elements of the technocratic program did not attract political support and could not be implemented at all. Where such support was obtained, the new instruments were often implemented in a hurry to take advantage of short-term political or economic conditions. Moreover, because each reform was developed ad hoc and generally without any prior political mandate, each fell victim to political and administrative compromises with vested interests that blunted its effects. This argument is supported by a detailed analysis of six new taxes implemented during the indicative planning era: the introduction of two r botidemeifirted bg A taxing task: combating Britain's relative decline in the 1960s 3 significant, for both the economy and for society, as changes to the structure of taxation. However, restricting the analysis to wholly new taxes does mean that we can be sure that the policy change is the result of positive choices by policy actors - 'critical' rather than 'routine' decisions.9 The changing structure of taxation in the 1960s Three features stand out when looking at changes to UK tax in the 1960s. The first is that the fall in taxation as a proportion of national income that had characterised the 1950s was succeeded by a rise (see Figure 1). It would be tempting to ascribe this to the defeat of the Conservatives in 1964; to see it as the product of partisan policy-making within Britain's twoparty system. This would be wrong. Although the rise came mainly under Labour, Figure 1 shows that it began at the start of the decade. In addition, Britain's experience of rising tax revenues as a proportion of GNP was not unique. It was a common experience across the OECD nations, even in those countries, such as Germany and Sweden, that were dominated by the same party during both the 1950s and 1960s.10 The only difference was that in Britain the increase did not start until the beginning of the 1960s. The second notable feature, as can be seen in Figure 2, was a pronounced change in the incidence of taxation. Most notably, the proportion of taxes levied on companies, which had remained fairly constant throughout the 1950s, fell whilst the proportion raised from individual taxpayers rose. This alteration is closely related to the third important change in UK taxation during the decade - the fact that tax, the objectives of which had hitherto been restricted to raising revenue and the preservation of horizontal equity, started also to be used to pursue economic and social objectives.11 A taxing task: combating Britain's relative decline in the 1960s 4 Figure 1 - UK taxation as a percentage of its GNP12 40% 30% 20% 1951 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 Figure 2 - Sources of UK tax receipts13 100% 80% Taxes on expenditure 60% Taxes on capital Corporate income tax Personal income tax 40% 20% 0% 1951 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 A taxing task: combating Britain's relative decline in the 1960s 5 Conservative taxation policy, 1960-1964 The beginning of the 1960s was a turning point in Conservative tax policy but the party's policies in the 1960s cannot be understood without reference to those of the preceding decade. The most novel feature of tax policy in the 1950s was the use of the budget as a means of stabilising the economy - a policy pursued by the UK more than any other country, though with somewhat patchy success.14 Such a policy was surprisingly interventionist for a Conservative government. Nevertheless, it was pursued within the existing tax structure. In fact, the most obvious Conservative ambition for tax during the fifties was to reduce it. In this, they had some success in terms of tax as a proportion of national income. In 1960, the Conservative Party's Research Department (CRD) still hankered after further reductions in 'the burden of taxation'. However, the likelihood of this was diminishing as a result of a decline in the buoyancy of the tax system and fading opportunities for expenditure savings.15 Indeed, by 1961 expenditure was beginning its sharp rise. In part, this was due to demographic change and consequent increases in welfare spending.16 However, another important factor was the change in the intellectual climate in respect of growth and government intervention in the economy. As the Chancellor later acknowledged, investing for growth in fields such as education precluded early reductions in tax.17 Nevertheless, the Conservatives remained confused over the direction of fiscal policy - torn between the new attraction of spending for growth and the proven electoral success of its previous commitment to tax reductions - and avoided public commitments on tax.18 The result was a policy vacuum that was filled by Treasury officials. The Treasury was then, and has subsequently been, commonly seen as obsessed with sterling at the expense of economic growth and antithetical to intervention in the economy.19 In 1960, however, it undertook a major reappraisal of policy.20 This caused the Treasury to advise the Chancellor that a more active role for government in the economy was required if growth was to be raised.21 This, in the words of one official, was 'a thoroughly new approach' to economic policy for the Treasury.22 In respect of the tax system, it led the Treasury to a concern A taxing task: combating Britain's relative decline in the 1960s 6 that it was too complex and designed solely in terms of revenue raising. Its report, which was circulated to the cabinet, concluded that to promote growth the tax structure needed to be changed and the tax net needed to be widened to finance increased government expenditure. Both policies were opposed by the Inland Revenue and Customs and Excise which both, for reasons of administrative simplicity, tended to oppose new taxes and wished to reduce, not increase, the number of taxpayers.23 Concern that the Treasury's developing ideas on taxation were too far ahead of the two revenue departments led the Treasury to involve them in an interdepartmental review of taxation policy during 1961 - but failed to produce a meeting of minds.24 The relationship between taxation and growth had become an issue within the Treasury in 1960, when its officials had begun to recognise that their manipulation of demand to stabilise the economy was flawed. They were acutely aware of the Radcliffe Committee’s recent warning that monetary policy was unsuited to fine-tuning now that sterling was fully convertible.25 This shifted the emphasis of stabilisation policy towards fiscal measures. However, fiscal policy, based as it was on the annual budget, was inflexible. The Treasury lacked the necessary tax instruments for fine-tuning demand between budgets. What was needed, it concluded, was some sort of 'economic regulator'. 26 If it could find one, it would help to eliminate 'stop-go' and, by smoothing the growth curve, raise the trend rate of growth. The purchase tax regulator The search by the budget committee for an economic regulator began in June 1960. In November, officials submitted a paper to the chancellor, which outlined the basic requirements: it should be possible to amend it between budgets and a small change should produce a big effect; it should affect consumption rather then investment; it should be quick acting; it should be widespread, in order to avoid the distorting effects produced by the narrowly based purchase taxes; and, finally, it should be ‘demonstrably separate’ from other taxes to avoid accusations that it was simply a revenue-raising device.27 The preference of the Treasury's new joint permanent secretary, Sir Frank Lee, was to replace the narrowly based purchase tax with a general sales tax and make its rate variable between budgets. His aim was to kill two birds with one stone - providing an economic regulator A taxing task: combating Britain's relative decline in the 1960s 7 whilst rebalancing taxation towards indirect taxes and so, he hoped, maximising incentives to work and earn. However, his proposal to re-cast indirect taxation was repelled by Customs and Excise - which objected to the greatly increased administration.28 Instead, it suggested a surcharge on purchase tax and other duties and the Budget Committee recommended this to Lloyd at the beginning of January.29 Whilst both Lloyd and Macmillan were attracted by the insurance that it offered against the looming sterling crisis, the proposal had two significant drawbacks. Firstly, there was the possibility of parliamentary opposition to its loss of control over economic policy. This was defused by conceding Parliament an affirmatory vote and making the new power annually renewable. More importantly, Lloyd was concerned about the electoral implications of deliberately raising prices and worried about continuing resistance to tax increases in the party.30 Nonetheless, he was persuaded by his officials - who emphasised their mounting worries about the prospects for sterling. In April 1961 the new instrument was introduced. It allowed the variation (up or down by up to 10 per cent of their existing rate) of a range of purchase taxes and excise duties. When fully applied, it yielded about £514m in 1961/2 (about two per cent of GNP). The new regulator was used, to its full extent, in the July 1961 sterling crisis. The introduction of the purchase tax regulator was an example of the new attitude in the Treasury. It was an attempt to raise growth via improved control of demand and was one of the changes which Brittan cited as evidence of a 'great reappraisal' in the Treasury during 19601961.31 It owed nothing to party ideology but was an example of how determined officials can influence policy if they can secure the support of senior politicians. The payroll regulator Whereas the purchase tax regulator was an example of successful tax policy-making by officials, the simultaneous introduction of the 'payroll regulator' was an example of how lack of political support could stymie official policy initiatives on growth. This regulator allowed the chancellor to impose, between budgets, a surcharge on employers' national insurance contributions. A taxing task: combating Britain's relative decline in the 1960s 8 Ostensibly, the aim of this regulator was to help fine tune demand. However, it had a deeper economic purpose. Its origins lay in a perception that industry needed to rationalise its use of labour if productivity was to be raised and growth increased. Sir Robert Hall, the government's chief economic adviser and head of the Treasury's Economic Section, had become convinced in 1960 that hoarding of labour by firms was constraining growth and that a tax on payrolls would encourage its more efficient use.32 Macmillan agreed and asked the Conservative's Taxation Policy Committee to examine it during its consideration of taxes suited to an ‘opportunity state’.33 It was also an idea that industry was prepared to accept and it was advocated at the 1960 Federation of British Industry (FBI) conference and by employer representatives on the tripartite Economic Planning Board.34 At the same time, as we have seen, the Treasury was casting around for ways of improving its demand management. Hall brought the two ideas together when, having accepted that a full-blown payroll tax might be construed as a repudiation of the government's commitment to maintain full employment, he suggested a PAYE-based payroll surcharge.35 Nevertheless, there were several contradictions between using a payroll tax as an economic regulator and using it to rationalise labour usage. Most notably, although discouraging labour hoarding presupposed a tax on employers, logic dictated that to act most effectively on consumer demand the regulator should be applied to employees. This, however, was completely unacceptable politically, since it made the regulator vulnerable to the charge that it was a poll tax.36 This was not the only problem. Because Hall's payroll regulator would only be applied intermittently, it did not justify a new collection mechanism. Instead, national insurance was used. This further compromised the regulator's efficiency by building in a three-month delay to allow new national insurance stamps to be printed. Furthermore, using national insurance risked compromising its integrity, either by breaking the link between contributions and benefits, or by producing pressure for increased benefits to match the higher contribution. A threat to resign by an ‘indignant and upset’ Minister of Pensions and National Insurance led to a highlevel political compromise by which the measure was approved but the power was taken for only for one year.37 This, given the national insurance changes already scheduled for 1961-2, made its use extremely unlikely. A taxing task: combating Britain's relative decline in the 1960s 9 Use of the payroll regulator was then made even more remote by adverse press comment and the opposition of the FBI (which had envisaged a payroll tax as an alternative to existing corporate taxes, not an addition). Both The Times, the Economist and (privately) the CRD commented on the incompatible aims of a regulator and of a payroll tax.38 Despite this, the Treasury, supported by the Bank of England, recommended using the payroll regulator during that summer's sterling crisis. However, by this stage it had become, as Lloyd put it, ‘a dead rat’ and Macmillan feared that its use would prejudice the chances of a successful incomes policy.39 Despite the fact that the power had been put onto the statute book for precisely this sort of emergency, the Cabinet decided not to invoke it and so the payroll regulator effectively died. Thus the payroll regulator, like the purchase tax regulator, was a technocratic contrivance which attempted to raise growth. However, it was an uneasy compromise between two Treasury objectives: better control of demand and better use of scarce labour resources. The result was a measure which achieved neither of its objectives, was unpopular and lacked political champions. This, in conjunction with opposition from the administering department, meant that, whilst the Treasury was able to get the measure on the statute book, it was unable to use it. Taxation of capital gains Treasury officials were more successful in their advocacy of the taxation of capital gains, although their agenda was achieved incrementally. In 1962, short-term gains, other than those relating to personal chattels, owner-occupied houses and business assets, became subject to income tax and, where appropriate, to surtax. Labour then implemented a full-blown capital gains tax in 1965. The chief aim of the tax on short-term gains was to obtain union support for an incomes policy by showing the government's willingness to tax capital as well as income, thus proving its commitment to social justice and demonstrating its determination to promoting growth by encouraging long-term investment. When he was chancellor, Macmillan had tried but failed to introduce a capital gains tax. The Royal Commission on Taxation of Profits ruled out a CGT in 1955 and this, coupled with opposition from both the Inland Revenue and his own party had forced Macmillan to abandon A taxing task: combating Britain's relative decline in the 1960s 10 his attempt.40 During the late-1950s, Treasury officials began to wonder if it might not be a necessary pre-requisite for trade union agreement to restrain wages. Ministerial fears of opposition from within the Conservative Party, and uncertainty about the likely economic effects, persuaded the Treasury that the idea was a non-starter. Once the Treasury began its move towards an interventionist growth strategy, however, its officials viewed the measure far more positively. They began to hope that a tax on short-term gains might encourage long-term investment as well as easing the introduction of an incomes policy.41 In 1960 the Budget Committee, despite Inland Revenue objections to the additional administration involved, considered recommending such a tax to Lloyd. It concluded that the idea remained politically unacceptable but, when Lloyd announced his intention to reduce surtax, suggested it as a political 'quid pro quo' to defuse union opposition to these tax cuts for higher-income earners.42 Lloyd was initially receptive but the idea proved too much for the party. The CRD took the view that a capital gains tax would handicap enterprise and initiative and Lloyd was warned that it would be disastrous for party morale.43 Nevertheless, within a few months, in his package of emergency measures in July 1961, Lloyd changed tack and indicated his intention to tax short-term speculative gains in land and securities. His intention was to offset the political damage of the deflation by adopting the interventionist growth strategy recommended by his officials and supported by Macmillan.44 By doing so, he aimed to make it easier for the trade unions to co-operate in two other elements of his policy package: the new NEDC and an incomes policy. As a proportion of GNP, the yield of the tax on short-term gains is extremely difficult to estimate because it was not levied as a separate tax but as an undifferentiated part of income tax. It was certainly not large, since it proved easy to evade by delaying gains until the sixmonth threshold had elapsed.45 Yet the new tax marked a real change in Conservative policy and produced City threats to reduce party funding. These were ignored and party reservations were finessed by emphasising the role of the tax as a disincentive to speculation. Yet, as with the two regulators, this new tax did not spring from the party.46 Instead, the change had come via the advocacy of Treasury officials and the support of Macmillan.47 A taxing task: combating Britain's relative decline in the 1960s 11 Viewed in isolation, these three new Conservative taxes might seem insignificant. Nevertheless, their implementation shows that the Conservatives had embraced an important new principle: that taxation should be used not just for raising revenue but for actively intervening in the economy for economic and social purposes. This was, by any standards, a major shift in Conservative tax policy and a marked break with their strategy in the 1950s. That the measures were relatively small was a function of the distance travelled by some members of the Conservative Party elite in comparison with Conservative activists. In the short-term, the degree to which the Conservatives could adapt their ideology to fit the new technocratic policy approach was limited. In principle, however, the new approach was infinitely extendable. Labour's taxation policy, 1964-1966 The fit between the Keynesian-plus and party ideology was less of a problem for Labour. In Signposts for the sixties Labour firmly located the blame for Britain's relatively poor economic performance in the Conservative government's 'refusal to create by its budgetary policy the climate of social justice in which alone there can be economic expansion without inflation'.48 It then used the years leading up to the next election to craft a programme of economic modernisation which proposed the creation of a national plan to build a ‘new Britain' and arrest its relative decline. Tax reform was an important constituent of this plan. Nonetheless, the 1964 manifesto contained few details about the tax reform programme and surprisingly little detailed work was done on taxation by Labour whilst it was in opposition - a fact remarked on after the election by officials.49 Labour's reluctance to discuss tax stemmed from its loss of the 1959 general election and the widespread view that the party's pledges on income tax and purchase tax had contributed to defeat. The party was loath to give hostages to fortune by making too many specific pledges for, as Rose and Karran remarked, 'If keeping out of trouble is a basic law of politics, then not making decisions about taxes is one way to avoid trouble'.50 Labour's principal source of specific policy ideas on tax was Nicholas Kaldor, an academic economist. Kaldor was one of Callaghan's pre-election advisory group and after the election A taxing task: combating Britain's relative decline in the 1960s 12 became his special adviser on the social and economic aspects of taxation policy. He had been the architect of the minority report of the 1955 Royal Commission on the Taxation of Profits and Income.51 This had recommended that the taxation of companies and individuals be separated, with company profits subject to a single tax rather than a combination of income tax and profits tax. It had argued that the equitable treatment of different classes of taxpayer demanded that the definition of income be extended to embrace capital gains. His integrated set of tax reforms, which included a capital gains tax, wealth tax, gift tax and expenditure tax, had been considered by a Labour working party in 1959 but had not been adopted.52 The Capital Gains Tax The taxation of short-term capital gains by the Conservatives had not satisfied those on the left who advocated a comprehensive CGT and Labour's sole tax promise in its manifesto was the extension of capital gains taxation. In 1961, Labour's Finance and Economic Policy SubCommittee had considered a paper by Kaldor and agreed that a full CGT was 'imperative' in achieving the fairness in taxation which appeared essential to an effective incomes policy.53 It would also raise useful revenue. It could not, the committee felt, be long be delayed even by the Conservatives. Essentially the implementation of CGT followed Kaldor's ideas in the minority report of the 1955 Royal Commission - except that the government decided to retain the Conservative's tax on short-term gains. An initial paper for Callaghan from the Inland Revenue outlined two options - both at odds with Kaldor's proposals in the minority report.54 One was a flat-rate tax set below the level of income tax to avoid creating a disincentive to investment. This would be simple to administer but the lower rate might require the continuation of the existing short-term tax. The alternative was the abatement of the chargeable gain according to the period for which the asset had been held. Kaldor dismissed the Inland Revenue abatement scheme out of hand.55 In Kaldor's view there were only two possible options: a single flat-rate tax or the integration of CGT into income tax (but not surtax). The latter met with general opposition from officials. Both the Treasury and A taxing task: combating Britain's relative decline in the 1960s 13 the Inland Revenue were adamant that applying a proportional tax to irregular capital gains was unacceptable and Bank of England warned that it would unsettle the gilts market.56 The various proposals crystallised into two: a single-flat rate tax set lower than the standard rate and a two-tier structure distinguishing between short and long-term gains. The two-tier approach, which treated short-term gains as pure income, was supported by Neild, the new economic adviser to the Treasury, and was acceptable to Kaldor. Neild's point, that reducing the tax on short-term gains was hardly a step towards equity, proved decisive.57 In 1965 Labour implemented a two-tier tax on all capital gains - making short-term gains (those made within 12 months of acquisition of any asset) subject to full income tax and surtax and long-term gains subject to a flat rate tax of 30 per cent. Within three years the new tax had increased revenues by approximately £47m (about 0.1 per cent of GNP).58 Disagreements within government over the structure and rates of CGT indicate that the effect on investment and growth of taxing long-term gains was arguable.59 There were real worries amongst officials that it might actually act as a disincentive to saving and investment. Nevertheless, its implementation showed the government's determination to implement a reform which aimed to make the tax system fairer in terms of horizontal equity. Because gains were restricted to those with capital, it also had an element of vertical redistribution. The combination, it was hoped, would secure trade union support for the government's voluntary incomes policy - and thus enable growth to rise without triggering inflation. This was the main purpose of the tax and was the same logic that had driven Conservative policy towards capital gains. Indeed, the Conservatives had indicated to officials just before the 1964 election that they would almost certainly introduce a long-term CGT if re-elected.60 Once again, the most important factor driving change was not ideology, it was the new Keynesian-plus policy environment and the feeling that government intervention in the economy was needed in order to both stimulate growth and avoid the inflationary pressures that it might produce. Corporation Tax The second plank in Labour's 1965 Finance Act was a new corporation tax. Its chief aim was to encourage profit retention by companies and so, by increasing the funds available to them, A taxing task: combating Britain's relative decline in the 1960s 14 increase their investment and thus raise economic growth. Before its introduction, company profits were subject to income tax at the standard rate and to an additional 'profits tax'. To avoid income tax being paid twice on distributed profits (once by the company paying the dividend and once by the recipient) the company was entitled to retain the tax it deducted from dividends at the standard rate. Thus the charge on distributions fell on the individual taxpayer not the company and companies effectively paid more tax on retained profits. The introduction of the corporation tax replaced this structure with a single tax of 40 per cent on all profits and a separate deduction from dividends of income tax at the standard rate. In effect, it was a reversion to the discrimination in favour of retained profits that had obtained until 1958. This had been abolished on the recommendation of the 1955 Royal Commission - which had argued that encouraging distribution would promote more efficient investment by allowing capital markets to allocate funds for investment. The change reflected the new perception that the quantity of investment was too low and that allocative efficiency might better be obtained by government intervention rather than through the operation of the free market. As with CGT, the blueprint for Labour's corporation tax lay in the minority report of the 1955 Royal Commission. This had recommended a single flat rate of tax on all profits, with dividends also subject to standard rate income tax. The intention was to encourage profit retention and so boost investment. An added, if unstated, attraction for Labour and the unions (but not Kaldor) was the possibility it would afford of financing higher expenditure by taxing business rather than voters.61 In March 1964, a party committee on taxation strongly backed the idea.62 Despite such support, Labour's 1964 manifesto did not refer to corporation tax. Shortly after the election, however, Callaghan (at Kaldor's instigation) indicated to officials that an immediate initiative would be required on company taxation as a quid pro quo for union co-operation on incomes policy.63 In response, the Inland Revenue produced a scheme based on the proposals of the 1955 minority report. But the tone of its memorandum was extremely negative - referring to a 'revolutionary' and 'controversial' change that would damage investment by discouraging profit making.64 These objections were brushed aside by Callaghan and he announced his intention to introduce a corporation tax in the spring during his November budget. Unfortunately, the lack of detailed proposals provoked intense speculation in the press and strong pressure from the City, the Bank of England and industry to ensure that firms were no A taxing task: combating Britain's relative decline in the 1960s 15 worse off under the new regime.65 Fearing the consequences of this for sterling, the government was forced to announce that the tax burden on companies would be approximately the same under the new regime, thus sacrificing the option of taxing companies more heavily than individuals that had attracted the party before the election. A further compromise had to be made on the taxation of inter-company dividends (an important element of Kaldor's proposal that aimed to discourage 'portfolio' investment, as opposed to physical investment). This resulted from Inland Revenue intransigence over double taxation and pressure from the Bank of England and employers' organisations.66 Fundamental to this disagreement, which divided the official committee on the new taxes, was a debate, also taking place in the DEA, NEDC and MinTech, over whether firms should be encouraged to co-operate or whether such encouragement might be monopolistic and detrimental to growth. Faced with the practicalities of managing the Finance Bill, Callaghan finally decided to drop inter-company dividends from the new tax.67 The end result was that in 1966/7 (the first year in which all companies were subject to the new tax), corporation taxes amounted to £1321m compared with £1933m the year before - a reduction from 6.2 per cent to 3.8 per cent of GNP.68 Clearly, the most important factor behind the introduction of CT was the advocacy of Kaldor. It was not, however, the product of partisan politics. Lloyd had considered the idea in 1960 on the prompting of Treasury officials, who were attracted by the possibility of varying personal taxation without affecting companies and so improving their ability to control consumer demand. The proposal had fallen victim to Inland Revenue objections to the extra work involved and to the double taxation of distributed profits.69 As with CGT, therefore, Kaldor was working with the grain of new Treasury thinking. Despite the concessions, the aim of the new tax remained closely linked to the desire to raise growth by using taxation actively to intervene in the economy - by encouraging profit retention, thus promoting long-term industrial investment, and by discouraging overseas investment. The difference between 1965 and the preceding attempts at reform by Treasury officials under the Conservatives was the ability of Kaldor to link his agenda with Labour ideology and win the support of senior politicians in the battle with the Inland Revenue. A taxing task: combating Britain's relative decline in the 1960s 16 The Selective Employment Tax Another example of using the tax system to promote growth can be seen in the 1966 selective employment tax. Although the Conservative payroll regulator had been stillborn in 1961, supporters of a payroll tax continued to press the case that it could be used to raise productivity and the idea re-emerged under Labour.70 Again, Kaldor was the prime mover - the architect of a complex system of higher employers' national insurance contributions and rebates to manufacturers which was conceived just after the March 1966 election and announced in the budget just four weeks later. Kaldor's thesis was that in an advanced industrial economy the less productive service sector tended to 'soak up' labour.71 Raising the cost of service sector labour relative to that in manufacturing, he argued, would increase average productivity. It would also provide a covert subsidy to manufacturing exporters and, by easing the balance of payments, make it possible to run the economy at a higher level of demand and so raise growth. In selling the idea to officials, Kaldor also offered the prospect of around £160m in revenue and the possibility of using the new tax as an economic regulator, via adjustments to the difference between its revenue and subsidy elements. Treasury officials supported the principle of using a payroll tax to encourage greater productivity. They were also interested in the possibility of another economic regulator. However, they were not convinced that changing relative prices within the labour market was practicable and foresaw, correctly as it turned out, all sorts of problems with drawing the line between services and manufacturing. How, for example, were administrative staff of manufacturing firms to be categorised? There was also the question whether SET was compatible with the government's regional policy, since it would raise the cost of service sector labour even in depressed areas. Officials were also concerned about the cost of the systems of collection and distribution required by Kaldor's complex proposal. Those departments that might have to administer the tax and rebate were fiercely opposed.72 The politicians, however, were keen.73 Wilson was attracted by a tax that would reduce demand without falling directly on consumers. Callaghan liked the idea of action to stimulate the economy that would not raise personal taxation. In the face of such heavyweight political A taxing task: combating Britain's relative decline in the 1960s 17 support, Treasury officials were forced to back down. However, without exception, officials were appalled by the rushed implementation and imperfect nature of the scheme.74 The only solace for the Treasury was that, by widening the gap between the tax and the rebate, they were able to contribute £245 million to the deflationary effect of the budget - something that became increasingly attractive in the lead up to the July 1966 sterling crisis.75 Indeed, one of the problems with the scheme was that, in the rush to implement it, there was a tendency of those involved to emphasise the objective to which they were most attached. The implementation of SET shows quite how far an expert adviser such as Kaldor, operating within a tightly bound and secretive policy-making community, could influence policy if he could secure the backing of senior politicians. The seriousness of the external situation explained how Kaldor managed to get it implemented in such short order, but its rushed implementation led to a botched job which cut across both regional policy and the National Plan.76 SET , by using the tax system to increase productivity, was obviously a product of the new willingness to use taxation to intervene in the economy that was embodied in the Keynesian-plus policy-making framework. However, this aim was obscured in the rush to obtain support for the measure. In the end, SET turned out to be an unhappy compromise between an attempt to manipulate labour markets to boost productivity, an attempt to improve demand management, an attempt to find a tax instrument which would act upon the balance of payments and, finally, a way of helping to deflate the economy in the face of a severe sterling crisis. The result was a mess and a political disaster for Labour. Subsequently, the abolition of SET became a priority for the Conservatives. Conclusions This survey of new taxes in the 1960s shows that contrasting party ideologies and partisan politics were not the wellspring of taxation policy during this period. Instead, there was a substantial degree of policy continuity between the Conservative and Labour governments. This continuity was characterised by action not inertia. It arose as a consequence of two factors. The most important was the development in the early years of the decade of a new intellectual A taxing task: combating Britain's relative decline in the 1960s 18 climate committed to reversing Britain's relative decline by raising its level of economic growth. More specifically, tax policy-making in the period under review was dominated by technocratic 'experts' not politicians, by Treasury officials under the Conservatives and by economic advisers under Labour, who were working within a political climate governed by the new Keynesian-plus policy-making framework. The new framework led both governments to intervene in the economy to promote modernisation and raise Britain's growth rate, and both governments were prepared to, and did, use taxation for this. Of course, this congruity did not necessarily imply complete agreement between the governments, or between the technocrats, on the policies that would best achieve the new objective. Nor was ideology altogether absent - it is clear that the policy legacy of the 1950s made it difficult for the Conservatives completely to reinvent their tax policy, whereas Labour ideology proved more congenial to technocratic reform proposals. Yet, both governments introduced new taxes which aimed to achieve similar ends with similar means. All the new taxes were designed to promote growth. Short and long-term capital gains taxation and corporation tax were all attempts to use taxation to promote growth through structural changes in patterns of investment - encouraging higher and longer-term investment. Similarly, both SET and the payroll regulator were attempts to promote long-term changes in the structure of employment and, in particular, release surplus labour to be used more productively. In addition, both regulators and, to a lesser extent, SET were attempts to raise growth by smoothing the growth curve through improved demand management. The new taxes, with the exception of SET, fell less heavily on firms and, coupled with measures such as increased investment allowances, this contributed to the re-balancing of the tax structure away from companies.77 Again, this aim was growth-related - aiming to raise corporate profits after tax, and thus increase industrial investment and innovation. Revenue raising was no longer the sole criteria by which new taxes were judged. And, whilst the new taxes did raise overall tax revenues, the need to do so was driven, in large part, by higher expenditure to raise productivity, in fields such as education and training, or to increase social justice and thus secure union support for the incomes policy that seemed essential if growth was not to lead to higher inflation. Nevertheless, whilst there was continuity in the making of tax policy, viewed as a whole the new taxes did not amount to a coherent programme of reform. Why was this? Most obviously, A taxing task: combating Britain's relative decline in the 1960s 19 Britain's tradition of adversarial politics made both the Conservative and Labour parties extremely wary of specific commitments on tax. This wariness translated into a reluctance publicly to discuss tax policy and, in the case of Labour even inhibited internal discussion within the party. This meant that neither party constructed a strategic programme for taxation. Nor, despite a good deal of degree of agreement amongst officials, advisers and ministers of both parties about the need to use taxation to promote growth, was there any attempt to build a cross-party consensus on detailed proposals. In part, this failure to seek public agreement on the tax reforms was an almost inevitable result of the parties' respective unwillingness publicly to engage with taxation policy lest they invite an attack from their adversary. However, the construction of a consensual programme for strategic tax reform was made even less likely by another institutional inheritance: the tradition of budget secrecy. As Lipsey recently commented, the Treasury is always wary of putting taxation policy 'into commission' because for the Treasury, '"into commission" has the ring of "hung by the neck until you are dead"'.78 This wariness meant the new taxes were rarely discussed outside the confines of a tightly-bound budgetary policy-making community until just before their announcement. The absence of the cabinet from most of the discussion is illustrative of its virtual irrelevance in the devising of tax policy. Nor was the House of Commons particularly influential. Furthermore, organisations outside Whitehall were generally excluded from the making of tax policy. Being allowed to make detailed representations only after the announcement of a new tax limited the ability of all these actors to contribute to tax policymaking.79 The fact that policy was devised behind the veil of budget secrecy might have been expected to strengthen the hand of the technocrats that were promoting change. It did not do so. Without a publicly endorsed mandate for change, it proved impossible for the technocrats to triumph over the third adverse institutional inheritance: the fragmentation of British policymaking institutions. For the politicians, the lack of a prior and publicly endorsed programme meant that each new tax carried political risks, particularly where a proposal had an obvious political cost such as increased prices or higher unemployment. Officials and advisers were forced to trim their sails accordingly. The need continually to obtain political backing made it A taxing task: combating Britain's relative decline in the 1960s 20 much more difficult to defeat vested interests that were opposed to change, both within and without government. Because there was no mandate for change, under both governments key elements of technocratic proposals for reform, especially those relating to the taxation of consumer expenditure, failed to attract the political backing that was necessary if the Treasury was to prevail over the conservatism of the administering departments. Yet where the revenue departments were circumvented, the results could be disastrous: as they were in both the payroll regulator and the SET. Furthermore, when political support was obtained it was often because of the opportunistic and hasty construction of policy, and of compromises which reduced the technical efficiency of the reform. Under both governments, for example, technocrats took advantage of political fears about sterling to advocate a payroll tax and deal with the inefficient use of labour; but, because the attempts were opportunistic, in both cases the reform was hurriedly conceived, ill-thought out, compromised by the need to appear politically attractive and poorly executed. Similar problems were encountered with vested interests outside government. Under the Conservatives, for example, the fact that the FBI had not been involved in the construction of the payroll regulator made it easier for it to repudiate the new tax. Under Labour, the lack of a mandate to change corporate taxation made it impossible to resist making concessions to the City of London. The fact that the Conservatives had themselves actively considered implementing such a tax in the early 1960s was not acknowledged. If it had been, the City's campaign for special treatment might not have been successful. Thus, the technocratic tax reform project of the 1960s failed not just because of Britain's twoparty system but because of a serious structural problem with British policy-making - a failure to acknowledge the endemic fragmentation of its policy-making institutions.80 The failure might have been avoided if the substantial cross-party consensus had been acknowledged and if an attempt had been made to widen the policy-making community by involving outsiders in the development of a publicly agreed policy programme. The new NEDC had the potential to provide the missing institutional framework which Britain lacked for 'an equal and open relationship between government and non-government agencies'.81 That the NEDC was not A taxing task: combating Britain's relative decline in the 1960s 21 used to do this in respect of taxation was due to the Treasury's refusal to share the power to make tax policy. By the end of the 1960s this problem had been recognised and there were calls for lessons to be learned from the formation of tax policy in Sweden.82 There, major tax issues were referred to investigatory committees of politicians, officials, industrialists, tax specialists and other interested parties. Their report was then circulated to interested organisations and comments were invited. The arguments of the committee and the main comments were then embodied in legislation.83 In effect, taxation was 'taken out of politics' in Sweden. This, however, pre-supposed a 'politics of compromise' that Britain's adversarial two-party system was unable to deliver.84 Without the construction of an active consensus on Swedish lines, the power of fragmented institutions to resist change could not easily be defeated and the result was an institutionalised stalemate. The final conclusion must be that such fragmentation needs to be addressed by more than just 'joined-up government'.85 It requires a reform of Britain's electoral system, to promote coalition-building, as well as far-reaching changes to its system of policymaking to reduce the power of vested interests to impede change. A taxing task: combating Britain's relative decline in the 1960s 22 References 1 Sven Steinmo, Taxation and democracy: Swedish, British and American approaches to financing the modern state (New Haven, CT, 1993), p. 1. 2 Richard Rose and Terence Karran, Taxation by political inertia (London, 1987), ch.7. Steinmo, Taxation and democracy, ch.1. The argument was first developed by Steinmo in 'Political institutions and tax policy in the United States, Sweden and Britain', World Politics, 41 (1988-1989): 500-535. 3 4 The ESRC's Whitehall Project has recently concluded that the early-1960s was a pivotal moment in Britain's post-war political economy. See, for example: Rodney Lowe and Neil Rollings, 'Modernising Britain, 1957-1964; a classic case of centralisation and fragmentation?' in R.A.W. Rhodes, Transforming British government, Vol.1 (London, 2000); and Astrid Ringe and Neil Rollings, 'Responding to relative decline: the Creation of the National Economic Development Corporation', Economic History Review, LIII (May 2000): 331-353. See also Hugh Pemberton, 'Policy networks and policy learning: UK economic policy in the 1960s and 1970s', Public Administration, 78 (2000): 771-792. 5 Andrew Gamble in A. Gamble and W.E. Walkland, The British party system and economic policy, 1945-1983: studies in adversary politics (Oxford, 1984), pp. 69-71 and 80-85. 6 Cmnd.2764 (London, September 1965). R.W.R. Price, 'Budgetary policy', in F. Blackaby, British economic policy, 1960-74 (Cambridge, 1978), pp. 209-210; Richard. E. Caves et al, Britain's economic prospects (Washington, 1968), pp. 42-44; and Hansen, Fiscal policy, pp. 443-447. 7 8 Samuel Brittan, The Treasury under the Tories (Harmondsworth, 1964), p. 211. A. Robinson and C.T. Sandford, Tax policy-making in the United Kingdom: a study of rationality, ideology and politics (London, 1983), p. ix. 9 10 Bent Hansen, Fiscal policy in seven countries, 1955-1965 (Paris, 1969). A taxing task: combating Britain's relative decline in the 1960s 23 11 Robinson and Sandford, Tax policy, p. 2. Derived from National Income and Expenditure, 1971 (London, HMSO). Data for 1956 to 1960 is derived from National Income and Expenditure, 1961 (London, HMSO) and that for 1961 to 1970 from National Income and Expenditure, 1971. 12 13 14 J.C.R. Dow, The management of the British economy, 1945-1960 (Cambridge, 1965), pp. 178 and 209-213; G.D.N. Worswick and P. Ady, The British economy in the nineteen-fifties (Oxford, 1971); and John Kay and Mervyn King, The British tax system (Oxford, 1990), pp. 120-123. 15 Martin Daunton, '"A kind of tax prison" rethinking Conservative taxation policy, 1960-1970' in Francis and Zweiner-Bargielowska The Conservatives and British society, 1880-1990 (Cardiff, 1996). 16 Rodney Lowe, The welfare state in Britain since 1945 (Basingstoke, 1993), pp. 70-75. Hansard, 13 November 1963, col.202. CPA, CRD, 3/7/26/1, ‘Taxation policy, 1960 and After’. The tension is captured in PRO, PREM 11/3225, 'Memorandum by the prime minister', 3 Jan. 1961. 17 18 19 See, for example: Balogh 'The apotheosis of the dilettante' (1958), reprinted in H. Thomas, The crisis in the civil service (London, 1968); A. Ham, Treasury rules: recurrent themes in British economic policy (London, 1981); and S. Pollard, The wasting of the British economy: British economic policy 1945 to the present (London, 1982). 20 Brittan, The Treasury, ch.7; Lowe and Rollings, 'Modernising; Ringe and Rollings, 'Responding'; and Pemberton, 'Policy networks'. 21 PRO, CAB 129/105, C(61)94, 'Economic Growth and National Efficiency', July 1961. PRO, T 230/579, Vinter to Clarke, 'Elements of a policy for economic growth', 27 Feb. 1961. See the Budget Committee minutes of 15 June 1960 (PRO, T 171/515) for an instructive discussion of the two points of view. 22 23 A taxing task: combating Britain's relative decline in the 1960s 24 24 PRO, T 233/2330-2331, 'Review of Taxation Policy, 1960-1961', passim; and T 320/51, 'Review of Taxation Policy 1962', passim. 25 Cmnd 827, Report of the Committee on the Workings of the Monetary System (1959), para. 12. 26 PRO, T 230/493, Lee to Lloyd, 26 July 1960. PRO, T 171/516, BC(M)(60)5, 'Possible economic regulators', minute by Sir Frank Lee, 8 Nov. 1960. 27 28 PRO, T 171/516, BC(60)41, 'An economic regulator', note by Customs and Excise, 16 Dec. 1960. 29 PRO, T 171/527, Lee to Hubback (principal private secretary to the chancellor of the exchequer), 3 Jan. 1961. 30 PRO, T 171/516, Boyle to Lloyd, 16 Nov. 1961. Brittan, Treasury, p. 204. Samuel Brittan, Steering the economy: the role of the Treasury (London, 1968), pp. 155-156. The roots of the idea lay in the fact that the better-performing continental economies all financed their social security systems, to a greater or lesser extent, by taxes on payrolls. 31 32 33 CPA, CRD 3/7/26/2, Taxation Policy Committee: correspondence and papers 1960, passim. PRO, T 171/524, note by Lee, 28 Nov. 1960; and CAB 134/1817, EPB(61)4, 'Memorandum on Economic Growth', 22 Feb. 1961. 34 35 PRO, T 171/516, BC(60)38, 'A wages or pay-roll tax', memorandum by the Economic Section, 20 Oct. 1960. 36 PRO, T 171/515, minutes of the Budget Committee, 3 Feb. 1961. PRO, T 171/516, meeting between Lloyd and Boyd-Carpenter, 30 Mar. 1961 and Lloyd to Macmillan, 7 April 1961. 37 A taxing task: combating Britain's relative decline in the 1960s 25 38 CPA, CRD 2/10/15, 'Note on a payroll tax', 7 June 1961. PRO, T 171/592, minutes of the Budget Committee, 12 June 1961; and H. Macmillan, Pointing the way, 1959-1961 (London, Macmillan, 1972), p. 376. 39 40 Brittan, Steering, p. 126. PRO, T 233/2330, Vinter to Armstrong, 3 Feb. 1960. PRO, T 171/515, 12 Sept. 1960. PRO, IR 63/215, Boyle to Lloyd, 31 Jan. 1961. PRO, CAB 128/35, CC 43(61), 21 July 1961; PREM 11/4769, Lloyd to Macmillan, 5 Sept. 1961. 41 42 43 44 45 It is difficult to estimate the government conceded that its yield was likely to be small (Hansard, 1 Aug. 1963, cols. 620-621). 46 The report of the party/s policy committee on economic growth (CPA, CRD 2/09/47, May 1962) did not even consider a short-term CGT. 47 Macmillan's desire to use social measures to temper the effects of capitalism, first stated in The middle way (London, 1938), can clearly be seen in the package of measures which comprised his 'new approach' in July 1962 - a package which had at its heart an explicit attempt to trade social welfare measures for wage restraint. 48 Labour Party, Signposts for the sixties (London, 1961), p. 35. PRO, IR 83/282, p. 24. Rose and Karran, Inertia, p. 5. Cmd.9474, 354-470. R.C. Whiting, 'Ideology and reform in Labour's tax strategy, 1964-1970', The Historical Journal, 41 (1998): 1126. 49 50 51 52 A taxing task: combating Britain's relative decline in the 1960s 26 53 Labour Party Archive (LPA), records of the Research Department, RD.139, 'Finance and Economic Policy Sub-Committee: Taxation of profits and income proposals for reform, memorandum by Douglas Houghton MP', 1 Apr. 1961. 54 PRO, T 171/764, M341, 'Capital Gains Tax: submission from Sir A. Johnston to the Chancellor', 20 Oct. 1964. 55 PRO, T 171/805, Kaldor to Chief Secretary, 'Capital Gains Tax - The Rate of Taxation', 19 Nov. 1964. 56 PRO, T 171/805, 'Treasury views on the scheme to be adopted for Capital Gains Tax', 30 Dec. 1964; IR 83/282, p. 25; T 171/805, Cromer to Armstrong, 2 Dec. 1964. 57 PRO, T 171/804, 1st meeting of the new taxes committee, 21 Jan. 1965,. The yield is derived from Inland Revenue, Statistics, 1970 (London, HMSO) and is for 1968/9. The value of GNP is from National Income and Expenditure, 1971. The Inland Revenue expected the yield to rise to about £150m p.a. in the long-term. 58 59 For a summary of the dissenting arguments see PRO, T 171/805, Kaldor to the Financial Secretary, 24 May 1965. 60 PRO, IR 83/282, p. 16. PRO, T 171/759, TUC budget representation, 26 Feb. 1964. PRO, IR 83/282, p. 125. PRO, T 171/761, minutes of a meeting between the Budget Committee and Treasury Ministers, 2 Nov. 1964. 61 62 63 64 PRO, T 171/764, M342, 6 Nov. 1964. PRO, T 171/804, NT(65)31, 'The new taxes: representations from outside bodies', 18 Feb. 1965. 65 66 PRO, IR 63/230, Sir A Johnston to Callaghan, 1 Dec. 1964; PRO, IR 63/231, 3rd and 4th meetings of the New Taxes Committee, 3 Feb. and 10 Feb. 1965; and IR 63/231, NT(65)33, A taxing task: combating Britain's relative decline in the 1960s 27 'Corporation Tax: Inland Revenue note on non-franking of inter-company dividends', 8 Feb. 1965. 67 PRO, T 171/804, 4th Meeting of the New Taxes Committee, 10 Feb. 1965. The yields are derived from Inland Revenue, Statistics, 1970 (London, HMSO) and the value of GNP from National Income and Expenditure, 1971. Note that if the personal income tax deducted from dividends is added to the figure for CT the effect of the change was broadly neutral. This, however, indicates the extent of the incentive to retain profits that was embodied in CT. 68 69 PRO, IR 63/215, Hubback to Beighton, 23 Feb. 1961 and minutes of the Budget Committee, 28 Feb. 1961. 70 See, for example, PRO, CAB 134/1805, EP(64) 32nd Meeting, 22 July 1964; and the FG 2/22 NEDO recommendation, 'Taxation and Economic Growth', 01 Aug. 1962. 71 Nicholas Kaldor, Causes of the slow rate of economic growth of the United Kingdom (Cambridge, 1966). 72 PRO, T 171/813, 7 Apr. 1966. PRO, T 171/812, prime ministerial meetings on the budget, 7 Apr. and 19 Apr. 1966. PRO, T 171/813, Armstrong to Bancroft, 15 Apr. 1966. PRO, T 171/813, 'The Employment Levy' Treasury note for the record, 19 Apr. 1966; and T 171/813, Walker to Pettish, 27 Apr. 1966. 73 74 75 76 C.T. Sandford, Realistic tax reform (London, 1971), pp. 48-52. In its original form, of course, Kaldor had not envisaged that SET would contribute significant revenue. 77 78 David Lipsey, The secret Treasury (London, 2000), p. 123. Itself the subject of a budget representation from the Institute of Directors, 20 Dec. 1966, PRO, T 171/828. 79 A taxing task: combating Britain's relative decline in the 1960s 28 80 A point that emerges from other recent studies of the period (for example: Ringe and Rollings, 'Responding'; and Lowe and Rollings, 'Modernising') and which suggests that the recent characterisation of Britain as a 'differentiated polity' (for example: R.A.W. Rhodes, Understanding governance: policy networks, governance, reflexivity and accountability (Buckingham, 1997)) may have under-estimated the degree to which this has always been so. 81 Lowe and Rollings, 'Modernising', (page reference to be supplied). See, for example, C.T. Sandford, Realistic, pp. 54-56. For more details of the Swedish use of investigatory committees see: Hugh Heclo, Modern social politics in Britain and Sweden (London, 1974); Peter Baldwin, The Politics of Social Solidarity: Class Bases of the European Welfare State, 1875-1975 (Cambridge, 1990); Steinmo, 'Political institutions'; and Steinmo, Taxation, pp. 121-135. 82 83 84 Andrew Shonfield, Modern Capitalism (Oxford, 1965), pp. 199-200 and 403. Cm.4310, Modernising government (March 1999). 85