This morning the internet was abuzz with news that the British pound had fallen to historically low levels against the U.S. dollar.
This morning, the internet was abuzz with news that the British pound had fallen to historically low levels against the U.S. dollar. The pound sterling lost nearly 5 percent of its value in early trading, coming close to parity with the dollar, before ultimately stabilizing.
Economists and other commentators around the internet saw this as news that Prime Minister Liz Truss’s new economic plan—announced late last week—may be dead on arrival. While there are some legitimate concerns about the plan, upon closer inspection there is also a lot to like for those on all sides of the political spectrum.
On Friday, Chancellor of the Exchequer Kwasi Kwarteng announced the terms of what some are calling a “mini budget”—an economic agenda for the U.K.’s new conservative government. The policies receiving the most attention are a 45 billion pound tax cut, as well as previously announced energy subsidies valued at 150 billion pounds.
As far as the tax cuts, the top rate category is being eliminated, such that the highest income bracket will fall from 45% to 40%. Meanwhile, the U.K.’s basic income tax rate will fall from 20 to 19 percent, and the corporate rate will remain unchanged.
If this sounds fairly uncontroversial, that’s probably because it is. The top U.S. federal income tax rate is 37%, and just 10 years ago it was 35%. Moreover, tax revenues in the U.K. are still expected to rise to about 35 percent of GDP, which is high by historical standards (see figure). Given this, it’s not surprising the budget package is being labelled “mini.”
Concern in the markets seems to stem primarily from the fact that the additional spending and foregone revenue could lead to larger budget deficits. British interest rates have been spiking, and some are expressing worries about inflation.
These concerns may be overblown, however, for a few reasons. For one thing, as economist Tyler Cowen has noted, despite rising yields, real interest rates are negative on a variety of British government bonds, so there is no sign the government won’t be able to pay its debts.
