On 14 October 2020 the OECD published on its website its economic survey of the UK.
The outlook for the UK is uncertain with the combination of Brexit and the COVID-19 crisis. Since July 2020 the UK has begun a new phase of support for business with the Plan for Jobs and the Winter Economic Plan. Some emergency measures have been phased out and others extended, with incentives to promote social consumption and temporary VAT rate reductions for certain sectors. The UK needs to move from crisis management to economic recovery.
The crisis provides an opportunity to encourage more environmentally sustainable economic growth. Policy coherence would improve if carbon pricing is equalized across sectors and fuels; and ending incentives to oil and gas field development. When economic recovery is established the UK must address the remaining structural deficit and begin to reduce the public debt to GDP ratio.
The report suggests that the UK should index state pensions to average earnings rather than using the “triple lock” of the higher of earnings growth, the inflation rate or 2.5%. When the recovery is established, it will be necessary to broaden the tax base to support social objectives including healthcare.
R&D Tax Credits
The UK government is committed in its Industrial Strategy to increase overall UK investment in research and development (R&D) from 1.7% to 2.4% of GDP by 2027. Tax credits account for 60% of government support. In March 2020, an increase in the R&D tax credit was announced and the scope of qualifying expenditure was increased to include data and cloud computing. Public R&D investment is to increase to GBP 22 billion (1% of GDP) per year by 2024/25.
As the economy recovers after the crisis it will be important to continue boosting direct funding to spur productivity and digitalization. Priority should be given to leveraging private sector innovation in potentially disruptive technologies. Small innovative firms should benefit from this support.
Support for Small Firms
During the crisis the UK has made available grants to small businesses and business rate holidays. In the recovery phase support should be restricted to firms that face a liquidity issue but are viable in the medium term.
The UK has more than 500 publicly funded schemes to support businesses. To maximise support for business the UK could review the whole system of support and re-prioritise resources toward measures that respond to a genuine market failure and support production processes consistent with environmental protection. The focus should be directed to supporting young firms especially those that are likely to be more innovative and operate with a sizeable share of intangible capital.
Encouraging Equity Based Financing
Equity financing accounts for a small share of total financing of small firms in the UK and is used by only 16% of small and medium sized firms. The tax system has a bias toward debt rather than equity financing, and the effective average tax rate on new equity is estimated to be 7 percentage points higher than on debt in the UK. Allowances for corporate equity (ACE) could be considered to currect the bias in the tax system. This maintains the tax deduction for interest expenses and gives a tax allowance for equity to achieve tax neutrality across debt and equity. If implemented the ACE should only apply to new equity. It can lead to strategic tax planning so specific anti avoidance measures are also required.
