The Economics behind how Rishi Sunak became the first UK Prime Minister of Indian Origin
TLDR: In the midst of economic turmoil and rising inflation, UK has had three prime ministers in the space of two months who chose to deal with it in their own different ways but somehow all failed. From Boris Johnson who chose to increase taxes to Liz Truss who recklessly tried to reverse this step.
In this article, we look at why Boris had to resign, why Truss thought removing taxes along with increased spending was the way to go, the situation Rishi Sunak finds himself in and the way forward for the UK.
Rishi Sunakโs rise to power has attracted attention in India โ and not just because he is the first British Asian prime minister. At 42, Heโs the youngest Prime Minister in modern times, surpassing the record held by his old boss David Cameron, who was 43 when appointed.
He was born in Southampton and attended Winchester School โ a very expensive and well-respected private school. He studied at Oxford and Stanford and worked in the financial sector for Goldman Sachs. He spent a few years living and working in Silicon Valley after graduating, where he met his wife Akshata Murty, the daughter of N.R. Narayana Murty, an Indian billionaire.
Mr Sunakโs appointment as prime minister has made his own wealth and tax affairs a hot topic again. Youโve probably heard of the massive riches of Rishi Sunak, Akshata Murthy and how their combined net worth exceeds ยฃ700m or โน6800 crore โ superseding the personal wealth of even King Charles III, the one who appointed Sunak in the first place.
But how did Rishi Sunak make it this big in a broken economy and overwhelmingly white population? Letโs explore the timeline of events that led to his appointment as PM.
Boris Johnson (July 2019 โ September 2022)
Boris Johnson served two terms as the Prime Minister of United Kingdom, until finally resigning in July of 2022. He however stayed on till September until a replacement was found. But why did he resign?
While there were multiple reasons for his resignation, we shall focus on just one aspect of it.
Boris Johnsonโs resignation as Prime Minister
To summarise this section in one sentence: cost of living and a tax rise.
Inflation in UK has risen sharply in 2022. At the time of Borisโ resignation, inflation had reached around 9.1% and has further increased to 10.1% as of October.
Many of the reasons were outside Boris Johnsonโs control, be it Russiaโs invasion of Ukraine or global supply chain bottlenecks due to covid.
Now, while the Boris government had taken some steps โ for example, by cutting fuel duty โ it also went ahead with tax increases. The government said the tax rise would pay for health and social care, which it did, but at an increased cost for the regular Briton.
Be it the economical aspect of tax and inflation, or the political optics of it, but Boris couldnโt handle the fallout.
Liz Truss (September 2022 โ October 2022)
Mary Elizabeth Truss aka Liz Truss became the shortest-serving prime minister in the history of the United Kingdom with a tenure of 50 days in office. But why did she have to resign?
For Liz too, there were multiple reasons behind her downfall, but her failure to remedy the economic situation and rather worsen it with her policies was the biggest factor.
The economic policy of Liz Truss
The ex prime minister believed that stepping back from what she described as the highest tax burden in 70 years would allow the public to keep more of the money they earn at a time of global high prices.
So Liz Truss along with her Finance Minister Kwasi Kwarteng announced a mini-budget and among the things that it proposed were:
- cutting taxation significantly
- abolishing the 45% top income tax rate
- cutting the basic rate of income tax
- cancelling rises in national insurance contributions and corporation tax
Trussโs plan was to cut taxes to keep the economy moving and also increase government spending to help people deal with rising prices i.e. her proposed solution to the problem of rising prices of goods was to make the prices lower by removing taxes and increase government spending to subsidize these prices.
Her mini budget proposed tax cuts amounting to over ยฃ45bn. This money, she thought would in turn get freed up in the pockets of the tax payers, which could then be used to pay for the higher prices caused by inflation.
But her plans did not work out, due to her lack of understanding of basic behavioural economics. The tax cuts and the spending Truss proposed would tend to make inflation worse because both the measures are pushing money out to people and businesses. And when they get money, people tend to buy more stuff, thereby increasing demand which in turn pushes the prices up. That is not what you want when you are trying to fight inflation.
Notice the massive ยฃ45bn unfunded nature of her tax cuts. Expenses worth ยฃ45bn continued to exist, just that the money which would pay for these expenses was now nowhere to be found.
Seeing such policy changes, international investors started yanking money out of the U.K. Implementing such policies scared away international investors who had developed a grim outlook on the countryโs economy. And hence, the countryโs borrowing costs went through the roof due to lack of money available for borrowing.
This mini budget was widely blamed for reducing the value of the pound and panicked financial markets. Her โmini-budgetโ caused huge economic problems and Kwarteng was sacked.
Harvard economist and former US Treasury Secretary Larry Summers noted: โI think Britain will be remembered for having pursued the worst macroeconomic policies of any major country in a long time.โ Another eminent economist, Willem Buiter described it as โtotally, totally nuts.โ
Rishi Sunak (2022 October โ ?)
Sunakโs time in limelight came when Johnson handed Sunak the role of the Chancellor of Exchequer aka the Finance Minister. Sunak found himself not only having to deal with the financial impact of a pandemic but was also tasked with appearing on television on a practically daily basis to update the country on his decisions.
Despite the pressure, Sunak turned the situation into a personal success. He was widely credited and praised for the furlough scheme that saw the government paying the wages of people unable to work because of lockdowns.
Sunakโs Economic Policy
Prime Minister Rishi Sunakโs government is focusing on filling a deep hole in the public finances caused by rising interest rates, rocketing inflation and a likely recession, all of which have exhausted the resources available for stimulating the economy.
While Liz Truss emphasized growth as the primary ambition during her few weeks in office, Sunak and his Finance Minister, Jeremy Hunt are having to firm up investor confidence by showing how they will pay off the UKโs burgeoning debt in the wake of certain devastating policies.
Early steps by Hunt to reverse Trussโs package have restored some calm to financial markets, bringing down interest rates in financial markets and potentially saving up to ยฃ15 billion a year in debt service costs from the peak of the market panic a few weeks ago.
The road ahead
The United Kingdom was already sliding towards a recession when Truss took office in September, as soaring energy bills ate into spending.
Now, Sunak has another headache: He must restore the governmentโs credibility with investors after Trussโ unfunded tax cuts forced the Bank of England to intervene to prevent a financial meltdown.
Finance minister Jeremy Hunt got the ball rolling when he reversed ยฃ32 billion ($37 billion) in tax cuts that formed the bedrock of Trussโ plan to boost growth.
Yet Sunak and Hunt still need to find between ยฃ30 billion and ยฃ40 billion in savings to bring down public debt and forge the path forward for UK to recover from its economic woes.
