Labour cuts income taxes
LONDON, May 13 (Reuters) – Britain’s embattled Labour government trimmed income taxes for 22 million people on Tuesday, as soaring food and fuel bills sent inflation rocketing and dented hopes for more interest rate cuts soon.
Higher household bills are creating a headache for increasingly unpopular Prime Minister Gordon Brown and the tax handout came after Labour came third in this month’s local elections — its worst post-war performance on record.
“This family tax cut provides support this year for those on middle incomes at a time where they face increased bills,” finance minister Alistair Darling told parliament as he unveiled the surprise tax cuts.
Ordinary tax payers will get an extra 120 pounds this year and Darling said it would be paid for by a 2.7 billion pound ($5.4 billion) increase in government borrowing, putting further pressure on already tight public finances.
The move was meant to compensate some 5.3 million low-paid people who lost out when the government scrapped a 10 percent income tax band, but went beyond in a dramatic push to woo the voters Labour needs to win the next election due by May 2010.
It was also designed to avoid a humiliating defeat in a parliamentary vote on the budget as Labour rebels made common cause with legislators from other parties on the compensation issue.
This would have compounded Brown’s problems ahead of a key parliamentary by-election next week which polls suggest could result in a gain for the resurgent opposition Conservatives.
The 10 percent tax row, together with concerns over rising food and energy bills and falling house prices, was blamed for the Labour local election rout.
Another headache for the government came as data on Tuesday showed that a record rise in food prices and soaring energy bills helped push inflation up half a percentage point to 3 percent in April, the biggest jump since 2002.
That inflation shock left the rate way above the central bank’s 2 percent target and all but scotched analyst forecasts for a rate cut in June — pushing sterling up and stocks down.
Most economists had thought a June cut was pretty much a done deal as the British economy is slowing because of a global credit crunch and a gridlocked housing market.
Bank of England Governor Mervyn King is now only a tenth of a percentage point away from having to write to Darling to explain how he plans to rein in prices — as required by law if inflation exceeds the target by more than a point.
HOUSING MARKET SUFFERS
There was bad news on the fragile housing market on Tuesday. The Royal Institution of Chartered Surveyors’ (RICS) house price survey posted its worst reading since it started 30 years ago.
Britain’s housing minister also warned in notes she presented to cabinet on Tuesday that the government had no idea how bad the market could get and annual price falls of up to 10 percent were possible this year.
“The dilemma facing the Monetary Policy Committee just keeps getting worse,” said Michael Saunders, economist at Citigroup.
“On one side, the credit crunch and housing collapse threaten to slow consumer spending and the economy sharply … on the other side, strong global cost pressures, the weak pound and surging inflation expectations threaten to produce an extended overshoot of the inflation target.”
Markets are awaiting the BoE’s quarterly inflation report, which will also contain growth forecasts, on Wednesday. The central bank has cut rates three times since the credit crunch hit but the outlook will depend on how much policymakers think slower growth will bring down inflation in the medium term.
While soaring commodity prices around the world — oil hit a record high on Monday — suggest inflation could rise further, the latest data also showed some retailers cutting prices aggressively as they tried to cope with lacklustre demand.
Tuesday’s RICS survey painted a bleak picture for the housing market where prices have started falling after years of double-digit growth as cash-strapped lenders make it harder for people to take out home loans.
Housebuilders are rattled. Redrow Plc and Galliford Try Plc both issued profit warnings on Tuesday. Many analysts are now predicting house prices could go down 10 percent this year.
Yet the less scope the BoE has to cut interest rates, the harder it will be for the market to get back on its feet.
“A dramatic deterioration in inflation prospects during April may be forcing the Bank of England into a corner,” said Matthew Sharratt, economist at Bank of America.
“The worse than expected inflation data in April now implies a serious risk that the next 25 basis point cut, that we had thought would come in June, may now be delayed until August.”