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The Early-to-Mid-1970s Revenue Squeeze
Alongside pledges to take the UK into the European Economic Community (EEC), as the European Union was then named, and regulate labour unions, the Conservatives' 1970 general election manifesto promised to cut income tax and abolish Selective Employment Tax, the payroll tax introduced by the Labour Government in 1966. It declared that taxes could be cut without worsening public services or benefits as a result of economic growth, better management, and cutting back on 'unnecessary' government spending. 'In 
the thirteen years of Conservative prosperity we cut tax rates by ?2,000 million—as well as doubling expenditure on the social services. We have done it before: we can do it again.'
The route to that hoped-for 'better tomorrow' proved to be rocky. The Heath Government found itself facing a recession, with unemployment over a million for the first time since before World War II, along with rising inflation and bitter battles with labour unions over regulation and wage demands that led the government to U-turn away from its initial free-market stance and set up politically contested statutory controls over wages and prices. But the Conservatives did indeed cut the standard rate of income tax in 1971, raised tax thresholds, and introduced Value Added Tax (to replace Purchase Tax, the sales tax introduced in World War II, and Selective Employment Tax, the payroll tax imposed in 1966, as discussed in Chapter Six). The Labour opposition declared 'total and unremitting opposition' to the new tax, but VAT was an accompaniment to the UK's entry into the EU, and Labour's 1974 manifesto did not include proposals to abolish the tax.
By 1973 the Conservative Chancellor, Anthony Barber, was claiming, 'We have reduced taxation on a scale unprecedented in our history. Taxation as a proportion of Gross Domestic Product has been cut from 35 to 30 per cent.' Barber's claim did not take account of successive increases in compulsory National Insurance contributions (not officially counted as a 'tax') to pay for annual uprating of pension and social security benefits, nor of sharp increases in user charges for NHS medicines, school meals, and rents for local authority housing, but it broadly accords with the reported financial outcomes discussed in Chapter Two and the more detailed figures given in the Appendix.
Up to 1973, that reduction in income and other taxes was not accompanied by significant cutbacks in government spending. Indeed, such spending rose markedly in the early 1970s, and the gap between spending and taxation was covered by increased borrowing on a scale which the Opposition claimed to have exceeded that which occurred during World War II: '...under this government, expenditure has risen more rapidly than at any time in our history'.
The position changed dramatically in 1973. In that year, a balance of payments surplus that had followed the 1967 devaluation (described in Chapter Six) turned into a large trade deficit, the inflation rate rose to 10 per cent despite elaborate statutory control of wages and prices, and the government became locked into conflict with trade unions over wage demands. The result was an energy shortage caused by a coal miners' strike that led to the imposition of a three-day working week and rolling power cuts in early 1974. And in October 1973, after the Yom Kippur war, the OPEC oil-exporting countries restricted oil supplies, producing a quadrupling of oil prices over the next year and recession across the oil-importing countries.
The Heath Government responded to these developments by a mini-budget in December, imposing extra taxes on higher earners and land developers and announcing plans for 20 per cent cuts in capital spending and 10 per cent in general procurement spending in most policy domains in FY 1974/75, though it spared public housing and (most unusually for a spending squeeze) avoided cuts in public service employment. The Opposition claimed the government was using the OPEC oil price hike as a smokescreen for what it would have had to do anyway to correct the financial consequences of tax cuts funded by borrowing.
That revenue squeeze increased sharply after Heath's Conservative Government called and unexpectedly lost a general election in February 1974 on the issue of 'who governs Britain?' in relation to its dispute with the coal miners that had led to the three-day working week mentioned earlier. After the Conservatives failed to agree terms for a coalition with the Liberals, a minority Labour Government led by Harold Wilson took office.
Labour went into the election with a manifesto heavily influenced by leftwingers within the Party, committing itself to 'a fundamental and irreversible shift in the balance of power and wealth in favour of working people and their families', 'far greater economic equality—in income, wealth and living standards', 'drastic redistribution of income and wealth' through an annual wealth tax, cuts in defence spending to the European average, the abolition of NHS prescription charges, further state intervention in and ownership of industry, and renegotiation of the UK's terms of entry into the EEC, followed by an in/ out referendum on membership of the Community.
In his post-election budget, the new Labour Chancellor, Denis Healey, announced plans to raise public spending by about ?700m in FY 1974/75 (to increase pensions and welfare benefits by almost 30 per cent, subsidize basic foods, and spend more on public housing, all of which had been promised in Labour's manifesto) but also increased taxes by approximately double that amount. That steep tax hike—for which the new government blamed its Conservative predecessor for its debt-funded tax cuts—comprised extra indirect taxes on road fuel, alcohol, and tobacco, and higher direct taxes, while the general rate of VAT was cut from 10 to 8 per cent. The direct tax increases comprised a higher rate of Corporation Tax, a rise in the standard rate of income tax by an amount similar to the Labour income tax increases of 1950 and 1964, reversing the Conservatives' cuts, and a steep increase in the top tax rate from 75 to 83 per cent (or 98 per cent in the case of investment incomes). Later Healey (1990: 402) claimed the combination of increased taxes on higher earners combined with pay restraint for ministers meant that his own real take-home pay as Chancellor fell to only half what he had been earning as Defence Minister the previous decade.
After barely eight months in office (during which it ended the miners' strike with an above-inflation pay settlement, repealed the Conservatives' trade union legislation, and retained a seat in the only by-election of the Parliament), the Labour Government was re-elected in a second general election in 1974 with the slimmest of overall parliamentary majorities (of three) and deeply divided between right- and left-wing factions. Labour campaigned on a manifesto seeking a mandate for the policies it had advocated in its February manifesto, albeit with no explicit repetition of its earlier proposals for a wealth tax or 'radical redistribution' of income and wealth, and indeed no mention of extra taxes at all.
There was no pre-election give-away budget, but in a second budget immediately after the general election (the third budget in less than a year), Healey raised taxes on road fuel further (by levying VAT on petrol at a new rate of 25 per cent), as well as introducing new taxes on the profits of oil companies, capital transfers, and land development (something the previous Conservative Government had planned). He also announced plans to phase out the massive deficits incurred by state-owned enterprises as a result of previous price restraint 'as fast as possible', implying big price rises for utilities.
The revenue squeeze continued with the 1975 budget, which raised the basic and higher rates of income tax by an extra two percentage points (but not the highest rate, which was already 98 per cent and thus effectively at a confiscatory level), lifting the basic rate of income tax to 35 per cent from the 30 per cent at which it had been left by the Conservatives. Moreover, with inflation well over 20 per cent, most income tax thresholds were raised by only about half that inflation rate. That pattern of 'fiscal drag' (later described by the Labour Chief Secretary to the Treasury, Joel Barnett (1982: 23) as a 'stealth tax') continued in later budgets until a Labour backbench revolt led to statutory price indexation of income tax allowances in 1977, and indeed revenue from income tax and National Insurance contributions increased more rapidly than the rate of inflation, while the opposite applied to excise duties). At the same time, the higher 25 per cent VAT rate that had been imposed on petrol in the November 1974 budget was applied to other goods deemed to be 'luxuries' (such as TVs), vehicle excise duties were raised, and taxes on alcohol and tobacco were sharply raised as well.
However, the 1975 budget also marked a politically significant transition from the revenue-only, tax-to-spend fiscal squeeze of the previous year, which had been accompanied by an increase in public spending of about 10 per cent, to the first explicit mention of public spending cuts. Challenging the Labour left, Healey declared for the first time in his 1975 budget statement that spending cuts had become 'inevitable'  and announced (for FY 1976/77) a 3 per cent cut in planned spending on defence, a 10 per cent cut in planned capital spending, and a 1.5 per cent cut in planned increases in civil expenditure (with numerous 'ring-fenced' areas, so as not to breach Labour's electoral promise to increase current spending on social security).
In addition to Labour's explicit political choices to increase retirement pensions, housing subsidies, and food subsidies, public spending was also being driven upwards by a system of planning public expenditure in volume- terms (rather than cash) which the Conservatives had introduced a decade or so earlier, following the 1961 Plowden Report,11 arising from earlier concerns about failures to forecast and plan public spending over time. Both Denis Healey and his Chief Secretary, Joel Barnett, seem to have viewed that system as contributing to the breakdown of spending control by the Heath Conservative Government, through 'encouraging [politicians] to concentrate attention on the relatively distant future while the short-term situation was getting out of control', which postponed planned cuts to the end of the planning cycle. Healey expressed doubts about this system in his 1975 budget statement, and began to abandon it in the following year, when the revenue-only squeeze to finance higher public spending turned into a combined tax and spending squeeze.