Churchill Knight Blog

The economy contracted by 6% during the recession, but is forecast to grow by about 1.25% in 2010 and about 3.25% in 2011. It might be argued that these remain somewhat ambitious targets, in view of the need to take money out of the economy to reduce national borrowing. On the other hand, past experience suggests that the economy can prove highly resilient. Even if a new administration (of whatever complexion) comes in after the forthcoming election and slashes government spending – which everyone says is essential, although not everyone agrees over timing – it is by no means certain that this will hamper the recovery because the chances are that, provided spending cuts are carefully targeted, the private sector will expand to fill the gap in public spending.

What is essential is that, while protecting essential public services, maximum effort is invested in cutting not just obvious forms of waste, but the millions of pounds spent on quangos, Whitehall consultants, unnecessary administration and needless targets that have to be reported on, but seldom improve the quality of service.

Doubling the Entrepreneurs’ relief against capital gains tax that will now see qualifying lifetime gains up to £2 million taxed at 10%, rather than the usual 18%, will please many. It is unlikely in the short term, however, to do much towards helping the economy. In any event the Treasury’s own figures suggest that the saving will only be £5 million in 2010/11 and £75 million the following year.

What will be of more immediate benefit is that ISA investment limits will increase in line with inflation from next year, with everyone now gaining from the £10,200 limit, not just the over 50s. Unfortunately, this is offset by a freezing of personal allowances and tax thresholds which means that, thanks to inelegantly-named fiscal drag, we will all effectively end up paying more tax; not just those earning over £100,000, who gradually lose their personal allowances, or over £150,000, who also now have to pay 50% tax and also stand to lose higher rate tax relief on pension contributions.

The net effect of this could be to damage net investment levels at a time when the savings ratio has only recently recovered from negative territory. Individual investment is an essential part of keeping the economy going, as is spending, which will also be hit by consumers having less disposable income.

The business rate relief scheme and doubling of the annual investment allowance are likely to help many businesses – along with the requirement that the partly state-owned banks must boost lending to small firms in particular. However, it may be that the immediate 2.2% increase in national minimum wage and a steadfast refusal to reverse – or at least delay – the 1% rise in national insurance contributions due next April will combine to reduce the ability of the SME sector to grow sufficiently to help the economy recover its strength.

It is generally understood that everyone needs to contribute towards a return to economic stability and that this involves paying higher taxes overall. If, however, the burden falls disproportionately on those businesses that have previously formed the engine room of economic growth, then the growth of tax revenues associated with business success – through increased corporation tax payments and higher income tax associated with greater earning potential amongst employees – then the recovery could be short lived.

It was vital to our national interests that the government should be seen clearly to address the size of its borrowing. Failure to do so could have resulted in rating agencies reducing our credit worthiness ranking as well as institutional investors around the world seeking a higher interest rate for our borrowings.

The extent to which the Chancellor succeeded has yet to be seen but at least sterling appears to have survived the day with just a 0.9% fall against the dollar. His updated forecasts suggest that public sector net borrowing, predicted in the Pre-Budget Report to reach £178bn this year, will actually undershoot by £11bn at £167bn, falling to £163bn next year despite a 2.2% real-terms increase in spending.

As reported last month, it is far from clear whether or not we are out of the woods, yet. While we now have revised GDP figures for the last quarter of 2009 showing that the economy grew by 0.3% (with the possibility of a further upwards revision to come), many people still foresee the risk of “double-dip” recession where we slide back into negative GDP growth. One reason for this concern is that according to the Office for National Statistics, high streets have reported a -1.2% fall in sales volumes in January, -1.8% if you count petrol and diesel. This represents a much larger monthly fall than January last year and comes on top of disappointing November and December figures, both comparatively worse than the end of 2008.

On the other hand, the Bank of England regional Agents’ summary of business conditions for February shows that, year-on-year, the figures are actually more positive with the Christmas/New Year sales figures well up on a year earlier.

Consumer spending is important because, historically, this has proved to mirror GDP growth quite closely. Interestingly, government spending has had less influence on GDP in general, although during a recession special considerations apply. One thing seems certain; as the Institute of Directors’ Graeme Leach puts it, this is a “feel-bad recovery” partly because incomes are rising so slowly (1.2% in the last quarter of 2009, compared with a year earlier). If house prices do not rise and boost consumer confidence, this could do as much – or more – damage as increased unemployment might.

According to the Bank of England Agents’ summary, manufacturing activity has grown since last summer, but while reports of expansion outweigh those of shrinkage, there is little real sense of strong or consistent growth. On the other hand, the level of unemployment slowed in the last quarter of 2009 and employment intentions have continued their upturn, based partly on the fact that labour costs have remained within control. For 2010, few employers expect to offer more than 2% pay increases, but pension related costs are expected to rise.

On the negative side, material costs have been increasing since summer and excess production capacity continues to depress the prices firms can charge to customers. This squeeze on margins will have to give way sometime, if business failures are not to increase.

After what may have started off looking like a potentially turbulent month, markets were generally less spooked by events in Greece than might have been expected. The FTSE100 gained 3.2% during February which, while not making up for January’s fall, still puts it ahead in quarterly terms and is a whopping 39.8% up over the past 12 months. The mid-cap FTSE250 grew by a more modest 1.42% during the month, but this was sufficient to cover the previous month’s losses and puts this index more than 54% up over 12 months.

Elsewhere, the Dow Jones rose by 2.56%, giving it a 12-month growth of 46.19%, while the Nasdaq100 managed a ‘chart-topping’ 4.23% rise during February. However, the Eurostoxx50 was down -1.47% while the Nikkei225 lost -0.25% during February.

According to the Nationwide House Price Index, average prices fell by -1.0% during February, but the rate of annual increase rose from 8.7% to 9.2%. Oil prices were 8.58% higher, which is again bad news for motorists (and potentially for home-owners’ energy bills), while gold has bounced back by 3.92% after two months of falls. Although it has yet to regain its high point of mid-November, when it briefly reached the $1,200 per ounce level, it remains at a gravity defying level compared with five years ago, when it was only a little above $400 per ounce. This could be taken as indicating a lack of confidence in alternative asset classes, amongst some investors.

Much press comment has centered on the financial crisis in Greece, but Italy and Portugal are also facing falling growth accompanied by high unemployment and government debt. While in Greece, debt is 124% of GDP, the position in Italy is little better at 115% with Portugal at 76% (our rate is 62%). Meanwhile, Spain’s unemployment rate is 19.5% and that in Portugal 10.4%, compared with just 7.8% in the UK.

All these are in the Eurozone and, while we are not, there is a significant level of trade between us and those countries that are. So anything that adversely affects them could hit the UK as well; if the Euro’s value falls because of their economic problems, the benefit we have received from a weak pound will disappear.

No sooner do one set of them write to the Sunday Times demanding faster action on reducing government borrowing, than another group writes to the Financial Times with the reverse call. No wonder George Bernard Shaw apparently wrote: “if all the economists in the world were laid end to end, they would not reach a conclusion”.

The fact remains that every political party knows that whoever wins the next election, there will have to be cuts in government spending and an increase in taxation, if borrowing is not to increase further.

The real question is about timing; will immediate cuts help reduce debt and build confidence, or simply slow the rate of economic recovery and result in a double-dip recession? The architect of spending your way out of a recession was John Maynard Keynes; but the last time it was recommended in 1981, Geoffrey Howe seems to have ignored the advice … and was proved right.

The need to reduce borrowing is self evident. One only has to consider what has been going on in Greece for that to be perfectly obvious. Governments with high borrowing levels, relative to Gross Domestic Product (GDP) and no clear plan to cut their deficits are likely to find it more difficult to borrow in future, when existing debt has to be repaid or replaced. Bond markets need to see action, or they will bet against the government and make interest rate rises inevitable.

Many contractors or freelancers are not in a position to set up a limited company, partnership or sole trader. Many are searching for the means to reduce taxes while increasing earnings. These benefits are exactly what an umbrella company may be able to offer.

An umbrella company offers individuals the means to operate multiple contracts through a managed limited company (an ‘umbrella company’) without administration. The time that would be employed on administering a limited company does not apply to an umbrella company. Timesheets, expenses, invoicing, tax calculations, collections, filing and contracts are a thing of the past.

Some umbrella companies’ offer extended benefits. In this way they are able to reduce tax liability. Other umbrella companies offer these benefits as well as being able to add on tailored requirements such as pension plans and health cover. Umbrella companies will also offer liability covers such as Employer and Public which will protect them in the event of any legal issues arising from services rendered.

A well structured umbrella company will operate within the guidelines of HMRC and will provide some tax benefits. Some also offer special dispensations for expenses incurred as part of your job. A contractor or freelancer becomes an employee of an umbrella company yet they retain the flexibility to choose who they work for, as well as their rates and terms and conditions of work. An umbrella company is, in effect, the means to provide tax reductions, autonomy and a way to gain benefits should one choose not to go self employed or trade through a limited company.