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A 5% increase in income tax may be necessary to combat the economic slowdown, a financial think-tank has warned. The move will be required 'to keep the public finances on a sustainable path' if the Government does not rethink its current spending plans over the next few years.
A new report by the National Institute of Economic and Social Research argues that the long-term impacts of the credit crisis and oil prices being around $100 a barrel will reduce sustainable output growth in most European countries by around 0.5% for the next four to six years.
Some of the increase in budget deficits is structural, and adjustment will be needed, claims the document, which is entitled The Budgetary Implications of Global Shocks to Cycles and Trends in Output: Impacts of Housing, Financial and Oil Shocks.
It suggests that public spending plans will have to be reduced in all European countries, or taxes will have to rise. The UK will benefit from the increased tax income from oil production, as long as it is maintained — but public expenditure plans will still have to be adjusted down by 2% by 2010.
Once the dust from the economic slowdown settles, the Government will have to rethink its spending plans and cut them by 3%, said the paper's co-author Ray Barrell.
He added: 'We're not talking about doing this tomorrow, but over the next five years sustainable measures have to be taken.'
Mr Barrell's fellow report author Simon Kirby noted that the longer term impacts of the economic slowdown will mean that income taxes will have to rise by 5p in the pound by 2011-12 if the Government persists with current spending plans.
