Tuesday 19 March 1991

The House met at half-past Two o'clock

[MR. SPEAKER in the Chair]

I refer first to international developments. The past year has brought recession to a number of major industrial countries including the United States, Canada and Australia. Growth in Germany has been sustained by reunification; but elsewhere in Europe, activity has slowed and industrial production has fallen in recent months in Spain, Italy and France. In five of the seven leading industrial nations, industrial output is now lower than it was a year ago.

The basic cause is the same everywhere: very rapid growth in the industrialised world during the 1980s led to the re-emergence of inflationary pressures. A period of slower growth was needed to stop inflation taking hold again.

In the autumn, the slowdown was magnified by the Gulf crisis. Business and consumer confidence were badly dented, first, by the uncertainties and the sharp rise in oil prices that followed the invasion of Kuwait, and then the prospect of war. Travel and tourism were especially hard-hit.

Mercifully, the war was brief and the outcome successful. Confidence is recovering and that will strengthen the economic upturn when the time comes; and the fall in oil prices has already improved the outlook for inflation.

So although 1991 as a whole will show little growth in the seven major economies—a ½ per cent. increase in industrial production compared to 5¾ per cent. in 1988—the slowdown is unlikely to last long. Inflation is already moderating in those countries that are in recession, and activity should start to recover later this year in north America, helped by continued expansion in Germany and Japan.

In the United Kingdom, the recession came after eight years of growth averaging 3 per cent. a year. This sustained growth bred confidence and that in turn led to a quite unprecedented rise in borrowing. Personal borrowing increased by nearly 40 per cent. in 1988 alone, to reach £54 billion—and a new record for the ratio of debt to income. This produced a sharp drop in the personal saving ratio, which coincided with a massive boom in investment by companies.

In itself, the rise of investment—nearly 80 per cent. between 1981 and 1989—was welcome, but the economy could not go on expanding at that rate. Some firms and individuals became over-extended and we saw a deterioration in the current account and a wholly unwelcome rise in inflation.

It is easy, with the benefit of hindsight, to say that policy should have been tighter; and, once the problem became clear, policy was indeed tightened. We ran a large budget surplus. Interest rates were raised, and they had to stay high until there were unmistakable signs that excess demand pressure had been removed. That took longer than we—or outside commentators—expected, and the delay meant that the adjustment, when it came, was all the sharper.

Since the middle of last year, individuals and companies have been taking steps to reduce their borrowing. Consumer spending has fallen back, and the saving ratio has risen sharply to 10·8 per cent. Firms have found it hard going. Profits have weakened, caught in the pincer of low turnover and rising costs, and the burden of debt taken on in the late 1980s has proved a heavy one.

It is not surprising, therefore, that business investment has fallen from the heights of 1989 and early 1990. Stocks are now being reduced, and companies are making strenuous efforts to cut costs. That has led to a sharp increase in unemployment during recent months, although there are welcome signs that firms are continuing to invest in skills and training. I expect output in 1991 as a whole to be about 2 per cent. less than in 1990. Much of that fall, of course, has already happened. It is largely behind us and, as I shall be explaining in a moment, the resumption of growth should not be long delayed.

The process of retrenchment has been painful, as it always is, but it has been necessary and is now producing results. The current account deficit has improved sharply—especially the balance on manufactures—even though world trade has been weak. Imports have fallen. while exports in some sectors, notably cars, have continued to grow strongly—testimony to the fact that industry is immeasurably better placed today than it was 10 years ago.

No one can doubt that inflation is on the way down. There has already been a fall of 2 percentage points since the peak last October, and there is widespread agreement that the fall in inflation will continue through 1991 and into 1992.

The prospects are now better than they appeared at the time of the autumn statement. The February survey by the Confederation of British Industry showed that the balance of firms expecting to increase prices was at its lowest level ever. The forecast published today, taking account of the effect of the Budget measures, is for inflation to fall to an average of 4 per cent. in the last quarter of this year and below 4 per cent. in the first half of 1992. The prospect, therefore, is that we will narrow the inflation gap with Europe remarkably quickly.

In the mid-1980s, we did get inflation briefly below 4 per cent., and we saw the advantages that followed. We are about to do so again, and again we will reap the benefits. Lower inflation, and the lower interest rates that go with it, will be a powerful force for recovery.

One of the lessons that I have learnt from years of grappling with economic statistics is that it is difficult to be certain about the past, let alone about the future. It is always especially difficult to predict the timing of turning points in the economy. However, there are good reasons to expect that the recovery will begin around the middle of this year, although initially it may be slow.

As we found 10 years ago, confidence revives as inflation comes down. This time, the ending of the Gulf war will give the revival an added boost. Just as falling consumer spending contributed to the onset of recession, so returning consumer confidence is likely to lead the recovery. At the same time, the reduction of stocks is likely to slow and the United Kingdom will benefit from the upturn in the United States and elsewhere in the world.

As a result, I expect output to stabilise in the next few months and then to increase by about 2 per cent. between the first half of this year and the first half of 1992. Looking further ahead, our projections show growth of about 3 per cent. a year as the economy recovers further.

The easing of demand pressures has already brought a marked improvement in our current account. As the House will have noticed, there can be lags not just between policies and their effects, but between the effects in the real world and their appearance in the official statistics. As a result of the recent revisions of the figures for invisible imports and exports, the current account deficit for last year is now estimated at under £13 billion, £2 billion less than forecast at the time of last year's Budget. This year, I expect the deficit to be halved to £6 billion, about 1 per cent. of national income.

Regrettably, unemployment is likely to go on rising for a while yet, even after the recovery has started. How far and how fast it rises will depend, in part, on the speed with which pay settlements come down—and come down they must, eventually, to the levels prevailing in other ERM countries. There is no escape route through devaluation, and firms know this.

Fortunately, a sharp fall in inflation is in prospect, and the reforms that we have introduced over the past decade have led to more pay flexibility. Some firms have already deferred pay settlements or agreed pay pauses. The more firms that follow their lead, the sooner we can reverse the trend in unemployment, and start creating jobs again.

To sum up, the prospect for the year ahead is for an end to the recession, growth of about 2 per cent. in the 12 months to the first half of 1992, and inflation below 4 per cent. This does not seem to me an umpromising outlook.

For the longer term, there is every reason to be optimistic about the United Kingdom in the 1990s. Recessions are always painful, but they are an inescapable feature of market economies—and they are temporary. Longer-term growth depends on having a thriving competitive private sector. That we now have, thanks to the reforms of the past 10 years.

If I may confess it, I do not believe in miracles, but I do believe that the right policies, courageously and consistently applied year by year, can produce a transformation in an economy, and that is what happened in the 1980s.

So now we can build on real achievements: a record number of new businesses, faster growth in manufacturing productivity than in any major industrialised country, and faster growth in investment than in any of those countries except Japan. These achievements have helped us over the past seven years to maintain our share of world trade, after 30 years of decline. They made the 1980s the first decade since the war when the United Kingdom grew faster than Germany and France.

There is one proviso—and it is a crucial one. We must get inflation down, and this time we must keep it down. The overriding lesson of the past few years is that the battle against inflation is never won. It is fatally easy to miss the warning signs, and hard decisions have few friends.

The costs of even a temporary reverse are high. Squeezing out inflation means high interest rates, frustrated hopes, bankruptcies and lost jobs.

But the costs of living with inflation are even higher—as those who remember the 1970s know only too well. Inflation makes our industry uncompetitive; it destroys savings; it creates uncertainty and strife; and a high rate of inflation can quickly get out of control. High rates of inflation are never stable.

Frankly, after the experience of recent years, it surprises me how many people are urging me to let up on inflation. It may not seem much of a threat for the next six or 12 months, but I am concerned with the year after that and with the rest of the decade.

The Government's decision to join the exchange rate mechanism last October provides a more secure framework for combating inflation in the future. That is its real significance. Linking sterling to other currencies with a proven track record of low inflation will be an added discipline on monetary policy.

We committed ourselves to that discipline after lengthy debate, and our decision was widely supported on both sides of the House, and in the country at large. The time has now come to apply ourselves wholeheartedly to the task of making our membership a success.

So far, it has been. Sterling has traded comfortably within its band during a difficult period. The sterling index is much where it was just before ERM entry, and our patient approach has meant that recent reductions in interest rates have been well received by the markets. They have recognised that they are consistent with our ERM obligations, as well as fully justified by the domestic economy.

Our entry into the ERM means that I have had to reassess the role of domestic indicators in guiding monetary policy. It should go without saying that interest rates will be set to honour our commitment to stay within the ERM band, but there is still a most important role for domestic monetary targets. All the major countries within the ERM take the same view.

Over the past year, M0—the narrow measure of money—has continued to provide timely evidence of monetary developments. Its annual rate of growth has been on a downward trend since last May. Since August, it has been within its target range of 1 to 5 per cent. For the year ahead, I propose to set a new, slightly lower target range of 0 to 4 per cent. That is consistent with my determination to exert further downward pressure on inflation. I shall also continue to watch closely other indicators of monetary conditions, especially M4—the measure of broad money—and asset prices.

There should be no sustained conflict between domestic monetary indicators and our ERM obligations. By far the best way of minimising the risk that conflicts will arise in the future is to build up credibility within the ERM. The policies that are necessary to defeat inflation and to sustain the exchange rate are the same.

For the time being, I have no plans to move to a narrow ERM band. That remains, of course, our longer-term intention, but the timing of the move must depend on the progress we make in reducing inflation.

I come now to the public sector finances.

Over the 1980s, my predecessors transformed our public finances and made them the envy of fellow Finance Ministers throughout the world. They first reduced and then eliminated our budget deficit, and in the last three years they repaid £26 billion of debt. The ratio of public sector debt to gross domestic product has been reduced from 50 per cent. in 1979 to under 30 per cent. now, to the benefit of this and future generations.

I am not going to fritter that legacy away. The firm control of public expenditure remains at the centre of our strategy. I will continue to aim for budget balance in the medium term. It is a simple rule, which is well understood and requires the Government to finance their spending honestly.

Our entry into the ERM does not alter the requirement for fiscal policy to buttress monetary policy and play its part in curbing inflation; so sound public finances will remain central to our strategy for the 1990s.

However, it is one of the more reliable laws of economics—not that there are so many—that the budget balance varies markedly over the economic cycle. When activity is growing strongly, tax revenues rise relative to income, and lower unemployment brings lower social security payments. We saw this in operation in the late 1980s when we ran large budget surpluses.

Those forces go into reverse when the economy slows down. That is why the Budget surplus has shrunk over the past two years, and why we are now likely to see the temporary re-emergence of a public sector borrowing requirement.

Those cyclical swings in the budget balance can play a useful role in offsetting the swings in private sector borrowing, and in stabilising the economy. They come about automatically, without the need for difficult judgments about the state of the economy. It is entirely consistent with the medium-term approach that I have already outlined to tolerate those swings in the fiscal position, but I am not persuaded of the case for going beyond that.

In 1990–91, the Government's finances have been affected both by the onset of the recession and by the Gulf war. However, as a result of the assistance we have received from our allies, the net effect of the war on the PSBR has not been as great as we feared. The outturn on the public expenditure planning total is expected to be a little lower than we forecast in the autumn statement. Overall, despite the war, I expect to achieve a further debt repayment this year of approaching £1 billion.

For the year ahead, I judge that a deficit of £8 billion can fairly reflect the strength of cyclical influences. For the same reason, I think it will be right to tolerate a somewhat larger deficit in 1992–93, for it takes time for the effects of lower activity to feed through fully on to revenue. The most notable is corporation tax, which is both highly sensitive to the economic cycle and paid in arrears.

Those deficits will disappear once output has returned to normal levels—just as the surpluses of the late 1980s did. Prudence dictates that I base my fiscal plans on a gradual recovery in output to its long-term trend. This implies a correspondingly gradual return to budget balance, but in practice the speed with which this happens will depend on the exact course of the upturn.

To summarise: for the year ahead, I am budgeting for a PSBR of £8 billion, 1¼ per cent. of GDP, and I expect a somewhat larger deficit in the following year. These deficits reflect the effect of lower activity on the public finances and are fully consistent with the aim of a balanced budget over the economic cycle.

In order to hold to this prudent fiscal stance, my Budget today will have a broadly neutral effect in the coming year, but will produce a modest increase in revenue in 1992–93.

I now turn to my tax proposals. In preparing this part of my speech I have been guided by great Finance Ministers of the past—first, by Gladstone, whose advice on delivering tax proposals to the House of Commons was:

"Get up your figures thoroughly … and then give them out as if the whole House was interested".

Secondly, I have perhaps been influenced by Colbert, the French Finance Minister, who said:

"The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing".

In framing my tax proposals, I have also sought to address a number of the concerns which have been put to me and to carry foward the process of tax reform initiated by my predecessors. Above all, I have produced a Budget for business. I therefore begin with business taxation.

In this country, there are 50,000 large companies paying the main rate of corporation tax, nearly 1 million other companies and 3 million unincorporated businesses. many of them very small, employing a handful of people at most. We should never forget those firms. My measures are designed to benefit businesses in each of those categories.

I have been particularly concerned about businesses which are experiencing cash flow problems, often made worse by late-paying customers. I shall therefore be announcing measures which should give immediate help to businesses' liquidity.

My first proposals concern the value added tax regime. For 18 years, ever since VAT was introduced, the rule has been that businesses become liable for VAT when they send out bills, not when they are paid, so some traders end up paying VAT even though their customers never pay them. In his Budget last year, my right hon. Friend the Prime Minister introduced an entirely new system for giving traders relief on bad debts. That comes into effect on 1 April and extends relief to all bad debts which are at least two years old.

Many business organisations have complained to me that that waiting period is too long. I now propose to reduce it from two years to one. This will enable businesses to claim relief next year on the bad debts that they incurred in 1990–91 and 1989–90. The new scheme will boost businesses' cash flow next year by some £340 million.

Actually, for the smallest firms, the problem of reclaiming VAT on bad debts need not arise in the first place because they can use the cash accounting scheme. That allows smaller firms to pay no VAT at all until they receive payment from their customers. Well over 100,000 traders are already using the scheme, but we estimate that a further 300,000 could do so. Customs and Excise will therefore be taking steps to publicise the cash accounting scheme more widely.

There is another aspect of the VAT regime which I know causes concern—the operation of the serious misdeclaration penalty, which came into effect last April. There have been widespread complaints that the automatic penalty that it imposes—30 per cent. of the tax wrongly declared—is too severe and unfair to those who make minor mistakes.

I accept that the penalty in its current form is an unnecessarily blunt instrument. We will therefore undertake a thorough review so that the SMP system can be reformed in the 1992 Finance Bill. I have also asked Customs to make some immediate changes to the rules, giving traders more time to put mistakes right themselves without incurring a penalty. I do not wish to pre-empt the review but, while it takes place, I am reducing the rate of penalty from 30 per cent. to 20 per cent.

Accounting for VAT can be an onerous duty for small traders. When VAT was introduced, we exempted firms with the lowest turnovers from registration. Since then, the registration threshold has been indexed.

European Community constraints have meant that, in the past, we have not been able to increase the threshold by more than the rate of inflation. At the end of last year, however, we pressed the case with the Commission to increase the VAT threshold. It responded very positively, and I therefore feel able to go far beyond indexation and to increase the turnover limit for registration by no less than 40 per cent. to £35,000, taking it to its highest level in real terms since the introduction of VAT in 1973. This will benefit up to 150,000 traders. The cost of raising this threshold will be £25 million in the first year, rising to £40 million in 1993–94.

I have two further deregulatory measures to announce, which will benefit very small businesses. At present, all employers have to pay over the pay-as-you-earn and national insurance contributions that they collect from their employees 14 days after the end of each month, but the burden of collection falls unevenly. Large firms are amply compensated for the trouble and cost of collecting the tax by the benefits of holding the money for this period, but small employers are not.

I have a proposal that will reduce the burden on some 700,000 smaller employers. From May onwards, employers making PAYE and national insurance payments of less than £400 each month will pay quarterly, not monthly. This will reduce the administrative burden on firms and help their cash flow, at a one-off cost to the Exchequer of £210 million.

I have one further measure to announce to help very small businesses account for tax. Last year, for the first time, businesses with a turnover below £10,000 were allowed to send the Inland Revenue a simple three-line statement instead of detailed business accounts. This is an important deregulatory measure which cuts out time-consuming paper work for up to 1 million people. From April 1992, I propose to raise the £10,000 limit, so as to allow up to ½ million more people to benefit.

There is a case for making a more radical simplification of the taxation of the self-employed. The Inland Revenue will shortly be publishing a consultative document containing our proposals.

I am concerned that the system of income tax appeals can sometimes operate unfairly, in particular because there is no provision for the award of costs. My noble and learned Friend the Lord Chancellor and I want to deal with criticisms by the Council on Tribunals about the absence of proper rules for hearing tax appeals. We shall be publishing a consultative paper which will include proposals about the award of costs where either party has acted unreasonably.

I have one proposal to limit the impact of capital gains tax on entrepreneurs and on our growing venture capital industry. I have in mind particularly those who may give up safe managerial positions to set out on the risky road of running their own business. For those people, the possibility of a large capital gains tax charge can be a deterrent. I have considered whether it would be suitable and sensible to introduce specific rules for venture capital, but I have concluded that that would be extremely difficult.

However, one way in which we can help business men and women to reap the rewards of their efforts is to improve the relief available to them when they retire and have to realise the asset that they have created. That is why I propose to reduce the qualifying age for capital gains tax retirement relief from 60 to 55, and to raise the limits on it. From today, the first £150,000 of capital gains and half of the next £450,000 will be exempt from capital gains tax. This will be a powerful incentive to entrepreneurs to start new businesses.

I have one other important change relating to capital gains tax on small businesses. Under existing law, only companies can offset their trading losses against their capital gains. I propose to give unincorporated businesses similar treatment. This will help small businesses if they wish to sell off assets to help themselves through a difficult period.

In addition to the measures that I have announced for small business, I wish to propose some changes to corporation tax. In his Budget last year, my right hon. Friend the Prime Minister raised the profit limits that govern the corporation tax rates paid by smaller companies. He increased the ceiling below which single companies pay corporation tax at 25 per cent. from £150,000 to £200,000, and the upper limit above which they pay the full rate from £750,000 to £1 million.

I propose this year to raise the limits again by a quarter. That means a total increase of 150 per cent. in three years. As a result, companies will need to be earning profits of more than £250,000 before they are liable to pay more than 25 per cent. Companies will not have to pay the full rate of corporation tax until their profits reach £1,250,000 a year. This will benefit 30,000 companies.

In 1984, my right hon. Friend the Member for Blaby made a radical reform of corporation tax. In his time as Chancellor, the main rate of corporation tax was reduced in stages from 52 per cent. to 35 per cent., thus boosting companies' post-tax profits, encouraging profitable investment at home and overseas and increasing the incentive for overseas firms to invest in Britain.

I believe that the philosophy behind his reforms—to widen the tax base, but to reduce the rates—was the right one. It is a policy that has been welcomed by industry. It allows business men, and not Governments, to decide how much to invest and in what to invest. It set the pattern for similar reforms in many countries throughout the world and ushered in an increase in investment of 50 per cent. between 1984 and 1990.

I propose today to take a further step in that direction. Corporation tax rates have remained unchanged at 35 per cent. since 1986, but since then the basic rate of income tax has been reduced from 30p to 25p and the top rate from 60p to 40p. I believe that the time has come to cut the main rate of corporation tax again.

However, I am also aware that cutting the rate of corporation tax only helps companies that are making a profit. Many businesses that have prospered in recent years have moved into loss this year. A cut in corporation tax does not help them and nor, in some cases, do existing arrangements for the carry-back of losses.

I am taking two measures to improve company cash flow. I am cutting by 1 per cent. to 34 per cent. the main rate of corporation tax, applied retrospectively to profits earned in the financial year 1990. This will give an immediate boost to the cash flow of companies that were profitable in the year just ending. It will benefit not only companies paying at the main rate, but the 30,000 other companies with profits between the lower and upper profits limits.

To help profitable companies that have just moved into loss, I propose to extend the carry-back period for trading losses from one year to three. That means that more companies making losses will qualify for tax rebates in 1992–93—valued at £250 million—which will help them to carry on through this difficult period.

My main concern in this Budget is to encourage profitable firms to go on investing in Britain's future. The best way in which to do that is to increase still further the post-tax return on successful investment projects. For that reason, I am cutting the main rate of corporation tax on profits earned in the 1991 financial year by two percentage points, to 33 per cent.

The two reductions in the main rate, from 35 to 33 per cent, will together cost £380 million in 1991–92 and £830 million in 1992–93. They will give us the lowest rate among our major competitors—lower than that of the United States, and the lowest in the European Community.

The 1980s were years of remarkable progress in our economy, but even more striking was the change in attitudes. The crucial importance of the market is now widely accepted in this country, and even more widely accepted in the House. There is a much greater acknowledgement of the fact that market forces and competition play a vital part in shaping our economy. That remarkable change in ideas and attitudes is the lasting legacy and achievement of my right hon. Friend the Member for Finchley (Mrs. Thatcher).

My right hon. Friend recognised that the key to a better performance by the economy in the long term lay in improving the supply side; and, over the past decade, that has been the aim of our tax policy, trade union and labour market reform, our competition policy, deregulation and privatisation. But, if the United Kingdom economy is to perform to its full potential, we still need a more flexible labour market and a better-skilled work force. I have a number of further measures to announce to that end.

If wages are inflexible, the burden of recession falls disproportionately on jobs: it is the only way for employers to cut costs. There is a considerable prize if we can get pay to take some of the strain. In 1987, we introduced a new tax relief to get profit-related pay off the ground. There are now about 1,250 such schemes in total, involving nearly 300,000 employees; but there can and should be many more, so I propose to make the scheme more attractive.

At present, half an employee's profit-related pay is tax-free. From 1 April, PRP will be free of all tax up to the present limits. It is worth up to a full £1,000 to a basic-rate taxpayer. For some, that could be worth as much as 6p off the income tax rate.

There is another way in which employees can and should enjoy a stake in the companies for which they work—through becoming shareholders in them. Employee share schemes have made a great deal of progress over the past 10 years. By the end of March last year, 2¼ million employees had benefited from shares or options worth more than £6·5 billion. Too often, however, employee share schemes have been directed solely at highly paid company executives. I believe strongly that valuable benefits of this kind should be extended to the whole work force.

I have given serious consideration to limiting executive share schemes solely to companies with all-employee schemes in place, but I have instead decided to rely on the carrot rather than the stick. From January next year, the price of shares under executive options may be set at a modest discount of up to 15 per cent. of the shares' market value if—but only if the company has an all-employee share scheme.

I also propose to increase substantially the limits on individual participation in approved all-employee share schemes, and to allow companies tax relief on the costs that they incur in setting up approved employee share schemes and statutory employee share ownership plans.

Another aspect of the supply side that needs improvement is training. A well-trained labour force is an important element in any firm's success. Employers know that and are acting on it. The 1990 labour force survey shows an 85 per cent. increase in the number of employees receiving job-related training since 1984. Despite the recession, the last CBI trends survey reported that over 75 per cent. of employers expected to spend at least as much on training in the next 12 months as they had last year and 29 per cent. expected to spend even more.

However, more and more individuals are also choosing to take responsibility for their own training. Employers can get relief on the training they provide as a normal business expense, yet at present the tax system generally gives no relief to an individual who decides to pay for training to improve his or her skills.

That cannot be right. If we want a better trained, more flexible work force, we should encourage people who want to help themselves. I propose to do just that. I am introducing a tax relief for the fees paid by an individual for training towards most national vocational qualifications and their Scottish equivalents. From April 1992, basic rate tax will be deducted automatically from the fees for qualifying courses, so non-taxpayers will benefit as well as taxpayers. Among those who stand to gain are women wishing to get back to work after having children.

Many hon. Members have pressed the case for helping two specific industries this year: shipping and films. While I sympathise with their aims, I have to say that there is a limit to the extent to which we can—or should—bend the tax regime to meet the special needs of any particular industry.

The Gulf hostilities have reminded us of the important contribution which our Merchant Navy can make to our defence. I recognise that there is a strategic case for measures to encourage shipping companies to draw their crews from seamen in the United Kingdom, who would be willing and able to serve in time of war. Towards this end, I propose a further relaxation of the rules giving tax relief to seafarers working mainly overseas. This will mean that more seafarers will be exempt from United Kingdom tax on their overseas earnings.

The film industry makes an important contribution to entertainment and culture in this country. The industry has put forward a number of proposals, but having studied these carefully, I am afraid I cannot accept them. However, I remain sympathetic, and if it has any alternative proposals that it wishes to put to me over the coming year, I will very happily consider them.

I know that the tax treatment of foreign exchange gains and losses causes difficulties for many businesses. This is one of the most complex and intractable areas of the tax code. Our 1989 consultative document elicited a valuable response but no consensus on the way forward. I am publishing today a further document setting out my specific proposals for reform, which I trust will bring greater rationality to this very important and complex area of the tax system.

I have also to correct one defect in the law affecting building societies. In a recent judgment, the House of Lords concluded that regulations covering the 1986 composite rate transitional provisions for building societies were technically invalid. If I were to take no action about this, there would be a windfall gain to building societies—not their depositors—of £250 million, distributed arbitrarily according to their accounting dates in 1985–86. I have therefore decided to include legislation in the Finance Bill to establish, as the Government and Parliament intended, that interest and dividends paid by societies in these transitional periods may be taxed at 1985–86 rates.

I turn now to trusts. In 1988, as Financial Secretary, I announced a review of their tax treatment. Today, I am publishing a consultative document on possible changes to the income tax and capital gains tax regime of United Kingdom resident trusts. My proposals include an alternative structure of tax rates, which would bring the treatment of trusts more into line with the treatment of individuals. They would also help to streamline the administration of trusts, saving work for trustees and their advisers.

We have also been reviewing the tax treatment of non-resident trusts. This raises an important issue of principle. In recent years, the use of non-resident trusts as a means of avoiding capital gains tax has increased. I do not think that it is right for a relatively small number of wealthy people to shift very large assets into offshore trusts simply in order to avoid United Kingdom tax. Such people have already benefited from the reductions in the higher rate of income tax. I therefore propose to introduce measures to counter this tax avoidance and to prevent a revenue loss of up to £100 million in a full year.

I turn now to charities. While people's real incomes have risen by over a third since 1979, charitable giving has more than doubled, partly as a result of the measures taken by my predecessors to encourage more giving. Tax reliefs for charities are now worth at least £800 million a year. Today I have some modest improvements to announce to the tax regime for charities.

I have two measures that should boost giving by businesses. The first is a new relief from income and corporation tax to encourage business gifts of equipment to schools and to other educational establishments.

The second concerns the gift aid scheme introduced last year. This allows companies and individuals to get tax relief on cash donations to charities up to a limit of £5 million a year, under the gift aid scheme. Company groups have found that the division of this upper limit between them prevents them from donating as much as they would like. To overcome this problem, I propose to abolish the limit altogether from today. In recent years, there has been a remarkable increase in corporate donations to charities. I hope that this further measure will encourage companies to give even more.

I also propose to adjust some existing VAT reliefs for charities and to ease the conditions for the relief from car tax for vehicles leased to disabled people.

I now come to a proposal to benefit both sport and the arts. Last year, my right hon. Friend the Prime Minster reduced pool betting duty, on the condition that the benefit was passed to the Football Trust. Following the success of that measure, a proposal has been put to me by one of the pools promoters for a new foundation for both sport and the arts.

League football benefited from last year's Budget measure, and racing benefits from the horse racing betting levy. This new foundation is intended to provide assistance to other sports and to the arts. It will be financed by contributions collected by the pools promoters along with the weekly pools betting stakes, and should raise some £40 million a year.

On the understanding that all the main pools companies agree to participate and that the full amount would be passed on to a new trust established on satisfactory terms, I would be willing to reduce pool betting duty a final time—from 40 per cent. to 37½ per cent. These arrangements would be subject to a review in four years' time. They should make a further £20 million a year available—giving £60 million a year in total—to the foundation in order to support both sport and the arts.

I now come to excise duties. First, I propose to raise the duties on alcoholic drinks to maintain their real value. That means that the duties will rise from 6 o'clock tonight by 9·3 per cent.—in line with the increase in the retail prices index in the year to December 1990. That will put about 2p on a pint of beer, 9p on a bottle of wine and around 56p on a bottle of spirits.

I will also be legislating to change the basis on which beer is taxed. The existing system of taxing the so-called "worts" was introduced by my predecessor, Mr. Gladstone. It will now be replaced by one in which the end product, the beer itself, is taxed. The new system will relate the duty more closely to the alcoholic strength of the beer—with a higher tax levied on strong lagers than on low alcohol beers.

I propose increasing all tobacco duties by 15 per cent.—well above the rate of inflation. This will add about 16p to the price of a packet of 20 king size cigarettes, and, I regret to say, around 8p to a packet of small cigars.

There are strong health arguments for a big duty increase on tobacco. In recent years, the duty has fallen in real terms, and cigarette consumption, having declined in the early 1980s, has since begun to turn up again. Raising the duty will help to counter this unwelcome trend.

The motor car imposes large costs on others in the form of pollution and congestion. I have decided therefore to increase the duties on petrol and DERV by 15 per cent, giving the private motorist a strong incentive to choose more fuel-efficient vehicles, and ensuring that those who pollute most, pay most. This is fully in line with the policy set out last year in the Government's White Paper on the environment.

A litre of leaded petrol will rise by nearly 4p, a litre of unleaded by about 3p and a litre of diesel by just over 3p. The tax differential between leaded and unleaded will increase, giving a further boost to the take-up of unleaded. I propose to freeze vehicle excise duty for private cars and light vehicles at £100, for the sixth year running, and also to freeze VED for all heavy goods vehicles.

Many motorists do not own their own cars but drive those provided by their employers. The scales for taxing the private use of company cars have been substantially increased in recent Budgets, but many employers continue to pay their employees in cars rather than in money. I propose to increase the car scales again this year by 20 per cent. This increase will yield £190 million in 1991–92and £250 million in 1992–93.

If people are paid in kind, there is no reason why they should be taxed more lightly than people paid in cash, yet our present system also gives employers an incentive to provide employees with cars rather than cash. Under our present arrangements, they avoid making any contribution to the national insurance fund on the benefit that the employee receives from private use of a car.

I propose that company cars and fuel should now become liable for national insurance contributions, assessed according to the scale charges used for taxation. My right hon. Friend the Secretary of State for Social Security will introduce a Bill to that end. Employers will pay at the main rate, but there will be no change for employees.

Employers' national insurance contributions on cars and fuel will yield an extra £610 million a year of contributions. This will reduce an anomaly in the national insurance contributions system, making it more neutral between different kinds of payment, and will widen the national insurance contributions base.

These new arrangements will take effect from April, but contributions will be collected annually in arrears, so employers will not be asked to pay their first contribution until June 1992. They are already familiar with the scale charges used for the tax so they should be able to make the necessary calculations with the minimum of extra work. They are already familiar with the scale charges.

I turn now to what I regard as one of the greatest scourges of modern life. I refer to the mobile telephone. I propose to bring the benefit of car phones into income tax and to simplify the tax treatment of mobile phones by introducing a standard charge on the private use of such phones provided by an employer. Tax will be paid of £200 for each phone for 1991–92. I hope that, as a result of this measure, restaurants will be quieter and the roads will be safer.

I have already drawn attention to the imbalance between savings and investment and its effects in the late 1980s. As companies found more and more opportunities to invest, we needed more savings; but instead, the saving ratio fell. In successive Budgets, my predecessors introduced new tax incentives to save. Many forms of saving now enjoy a highly privileged tax position.

Last year in particular, my right hon. Friend the Prime Minister announced a new scheme, the tax-exempt special savings account. TESSA has proved a spectacular success since it arrived on the savings scene nearly three months ago, and has encouraged the savings habit among ordinary taxpayers. Already, over 1·illion people have opened accounts.

My right hon. Friend also announced in his Budget last year the abolition of composite rate tax. From 6 April, non-taxpayers will no longer have to pay tax on their accounts with banks and building societies. These are far-reaching reforms, which need time to settle down and take effect, so this is not the year to disturb the regime that we have just put in place, or to risk causing confusion with further schemes. My main concern has been to consolidate the system that we already have, although I have some modest changes to announce.

I propose to raise the capital gains annual exempt amount to £5,500 and the inheritance tax threshold to £140,000 this year in line with inflation.

National Savings continue to play an important role, particularly for small savers. This summer, I propose to introduce a new National Savings children's bond for children under 16. There will also be a new issue of fixed-interest savings certificates, with a maximum investment of £5,000 compared with £1,000 on the last issue. Other changes to National Savings products will be set out in a press release issued today.

I am also removing the restrictions on friendly societies writing tax-exempt life insurance policies for children, and increasing the limit on premiums for their tax-exempt policies generally from £150 to £200.

Personal equity plans remain an important means of promoting direct share ownership. Since their introduction in 1987, about 1·2 million PEPs have been taken out, and over £3 billion has been invested. I have some further changes to announce.

First, I in tend to allow investment in European Community, as well as United Kingdom, shares both for individuals and for unit and investment trusts. Second, to promote the development of single-company PEPs, I propose to allow investors to put up to £3,000 a year in a single-company PEP, as well as up to £6,000 a year, as now, in a general plan. This will allow total investments of £9,000 a year.

While single-company PEPs are available to any investor, I believe that they provide a natural home for shares acquired under employee share schemes. I therefore propose to allow shares acquired under approved all-employee share schemes to be transferred directly into the company PEP, with no charge to capital gains tax.

Employee share schemes and PEPs have encouraged individuals to become shareholders, but many people have bought their first shares in big offers, mainly privatisations. The first of these to catch the public's imagination was British Telecom. The Government currently still own some 48 per cent. of the shares, and I can announce today that I intend to sell part of this holding in the coming year.

Privatisations have been a great success. The next step is to encourage people to invest in shares more generally. One problem is that, to the small investor, the stock market can seem remote, intimidating and somewhat expensive. The development of a genuine retail market for shares in high streets up and down the country would be highly desirable.

To give this the boost it deserves, the Government are considering a change in the way in which they market privatisations. For future large flotations, I am today inviting proposals from the private sector for arrangements to distribute shares directly to the public through high street retail networks.

I hope that there will be proposals both from financial institutions—banks or building societies—and from companies outside the financial sector. If satisfactory proposals can be developed in time, I will consider using such a high-street network in the sale of British Telecom shares.

Such a high street network could be used for primary issues, not only by the Government but by private sector companies and, in the longer term, it could provide a cheap and accessible way for individuals to buy and sell in the secondary market.

The measures that I have just announced will encourage people to save, but there is another side to the story, for the fall in the saving ratio at the end of the 1980s was a result not of a fall in gross savings so much as an increase in borrowing, particularly mortgage borrowing.

In part, that reflected the remarkable increase in home ownership over the last decade. That has been, and remains, a key objective of policy for the Government. A less desirable development, however, was the dramatic boom in house prices during the late 1980s, which fuelled borrowing and helped boost inflation. Many first-time buyers found prices rising much faster than their incomes. We need to do all we can to ensure that, when recovery comes, it is not accompanied by another bout of house price inflation, with the unwelcome consequences that that would have for inflation and interest rates.

I propose to leave the ceiling for mortgage interest relief unchanged at £30,000, but from 6 April 1991 I propose that, relief should be allowed only at the basic rate. That will yield £220 million in 1991–92 on the basis of current interest rates, and £420 million in 1992–93.

I recognise that some people have arranged their affairs on the assumption that higher rate relief will continue. Therefore, to reduce the amount of extra tax they have to pay, I propose to increase the starting point for higher rate tax from £20,700 to £23,700, £1,000 more than required to match inflation. That will keep the number of higher rate payers broadly stable and mean that a married man will not become liable to higher rate tax until his earnings rise to nearly £29,000.

My objective is to reduce the tax subsidy to borrowing without significantly increasing the average tax burden on higher rate taxpayers. Taking those changes with the changes to the personal allowances that I am about to announce, the typical increase in liability for a higher rate taxpayer with a £30,000 mortgage will be only around £1 a week.

Of course, the main determinant of the cost of a mortgage is not tax relief, but interest rates. For a higher rate taxpayer with a £50,000 mortgage, the fall in the typical mortgage rate that has already taken place since last autumn fully offsets the change that I am making to mortgage interest relief.

I now come to income tax. Income tax is never welcome, but paying tax unexpectedly is even less so. That is the position facing employees who were working in Kuwait and Iraq at the time the Gulf crisis began. They may now become liable to pay United Kingdom tax on their foreign earnings which they had expected to be exempt. I propose that employees who had intended to work in Kuwait or Iraq for a year or more but were forced to return home earlier by the crisis should not be taxed on their foreign earnings.

I have no changes to make to either the basic rate or the higher rate of income tax. Our objective remains to move towards a basic rate of 20p, but I cannot make further progress towards it this year. Our priority must be to reduce taxes on business.

I propose this year to uprate the personal allowance in line with inflation. It will rise by £290 to £3,295. The personal allowance for the over-65s will increase by £350 to £4,020, and for those aged 75 and over by £360 to £4,180. The married couple's allowances for the elderly will also be increased in line with inflation, from £2,145 and £2,185 to £2,355 and £2,395. The income limit for the allowances for the elderly will increase by £1,200 to £13,500.

However, I am not proposing to increase the married couple's allowance for couples under 65 or the allowances that are linked to it. They will stay at £1,720.

I know that there is a widespread view in the House and in the country that more should be done to help families with children. I propose to use the resources released by not increasing the married couple's allowance for that purpose.

There are some, I know, who advocate the reintroduction of child tax allowances. I have looked at that option carefully, but I am clear—especially following the introduction of independent taxation—that it would not be an effective way of channelling resources to those who need them. A better way of directing help straight into the pockets of mothers, whether they choose to work or not, is child benefit. It goes to all families—to the children of non-taxpayers as well as the children of taxpayers.

I therefore propose to increase child benefit from 7 October by £1 a week for the first eligible child in each family, and by 25p a week for other children. These rises come on top of the increase announced by my right hon. Friend the Secretary of State for Social Security last autumn, which will be paid from 8 April. This means that, in October this year, a benefit of £9·25 a week will be payable for the first child, and £7·50 for each subsequent child.

We will ensure that the increases benefit not only taxpayers but the very poorest families—those on income support and family credit. These increases will help 6·8 million families, and 12·3 million children. I should add that the Government have decided that the new levels of child benefit will be uprated in line with inflation next April and in subsequent years.

The measures that I have announced today maintain a responsible fiscal policy, while giving help to industry and families. They also include some important reforms to the tax system. However, my Budget would not be complete if it did not address one other issue, which has attracted a certain amount of attention recently.

My right hon. Friend the Secretary of State for the Environment will be annoucing very soon the conclusions of our review of local government. I do not propose to anticipate his statement, but there is one announcement I want to make today.

In January, we announced a £1 billion package to reduce the community charge for more than half of all charge payers. Since then, I have been considering whether the impact of local expenditure on the local taxpayer is too great for any system of local taxation to bear.

I have concluded that local taxes are being asked to bear too large a burden, and that the level of the community charge is still too high. However, if local taxes are to fall, and if the standard of local services is to be maintained, taxes elsewhere must rise.

I propose, therefore, to make a substantial switch from local taxation to central taxation. This will amount to about £4¼ billion in the coming financial year—1991–92—and will reduce the net yield of local taxation to about £7 billion. This large reduction in local taxation will take it to a level that the Government believe should be sustainable in the longer term.

We shall introduce a Bill in the next few days to authorise payments of extra grant to local authorities, and to ensure that community charge payers will reap the full benefit in reduced charges in the coming year—1991–92. The money will not be available to increase local authority spending. Domestic rate bills in Northern Ireland will be reduced as well.

The Bill will also ensure that charge payers do not have to start paying their charges until the new and lower charges have been introduced. Later today, my right hon. Friend the Lord President of the Council will make a statement about the arrangements for the Bill. The switch requires a substantial increase in central taxation. I have decided that this should be achieved by raising indirect taxes—that is to say, taxes on spending.

I am proposing, therefore, from 1 April to increase the standard rate of value added tax by two and a half percentage points to 17½ per cent. VAT is a broadly based tax which falls on consumers rather than producers. Since much consumer spending is zero-rated, it bears less heavily on poorer households than on the better-off, so raising VAT is not only an efficient but also a fair way to raise the necessary finance; and raising taxes on spending rather than taxes on income will be better for savings, and consistent with our strategy for tax reform, first set down by my right hon. and learned Friend the Member for Surrey, East (Sir G. Howe) in his 1979 Budget.

Raising VAT will increase some prices, but the reduction in the community charge will more than offset that effect, so the switch will actually reduce the retail prices index. As a result of these changes, the community charges recently announced in England, Wales and Scotland will be cut by £140. On average, the headline charge will be reduced from about £390 to about £250 in both England and Scotland, and from about £260 to about £120 in Wales, while the amounts people actually have to pay, after allowing for relief and benefits, will fall I o under £175 in Great Britain. The charge in Shetland will fall to under £1.

The measures I have announced are designed to meet the three main requirements of any Budget. First, they represent sound finance, and contribute to a firm counter-inflationary policy. My predecessors transformed public finances in the 1980s; my proposals will keep us on track to balance the budget over the 1990s. Secondly, they respond to the economic needs of the moment. I have cut taxes on business, both this year and next, to help it to weather the recession and take advantage of the upturn later in the year. Thirdly, they continue the reform of the tax system to improve the working of the economy in the longer term. In addition, in a year when resources are tight, I have been able to give additional help to families with children. Finally, I have made a decisive reduction in the burden of local taxation across the country, and cut community charges in the coming year by £140.

This Budget is good for business, good for families, good for charge payers and good for the country. I commend it to the House.