New tax breaks will have a positive effect – but with limitations
The temporary 'super-deduction' tax incentive announced by the Chancellor in his March Budget should help to increase investment spending by making more projects profitable and providing companies with a strong incentive to bring spending forward. But the super-deduction’s effect will be time-limited, and its coverage is restricted to a small subset of investment. The incentive effect for small firms will also be less powerful than for large companies. Additionally, the planned rise in the corporate tax rate in April 2023 presents a medium-term headwind to business investment.
Levels of economic optimism and confidence in rising demand will be the deciding factors
What emerges clearly from recent history is the importance of demand in the economy in influencing investment. Given the slower pace of GDP growth in the decade to 2019, it’s unsurprising that firms adapted by investing less than they might otherwise have done. The pessimistic view is that after experiencing a long period of weak economic growth and two major global economic shocks in little more than a decade, companies are likely to remain reluctant to invest, even if the economy enjoys a post-COVID-19 spurt.
But there’s also an optimistic angle. The high household savings ratio could provide fuel for a consumer boom, which will benefit from the Government moving away from the austerity programmes of previous administrations. At the same, time, the Government is committed to ‘levelling-up’ to narrow regional disparities, while the Bank of England is likely to proceed slowly in raising interest rates. Together, these factors create the potential over the next few years for a ‘higher-pressure’ economy than the UK has experienced for some time, which could in turn boost business optimism and investment. The million-dollar question? Whether that optimism can be sustained long enough for firms to reset their expectations and factor in a more promising future, instead of being bound by the experience of a decade of disappointment.