UK Equities: A Steady Hand Amid Tax-Driven Hiring Fears – Lessons from History

The UK's tax policy debates often spark doomsday predictions: higher National Insurance Contributions (NICs) will crush hiring, inflation will spiral, and equities will crumble. Yet history tells a different story. By dissecting decades of tax reforms and their economic impacts, we uncover a resilient truth: UK equities have weathered tax-driven storms before, and current concerns may present a buying opportunity. Let's analyze the data and separate myth from reality.

Tax Wedges and Labour Markets: A Nuanced Picture

The UK's tax burden on labour remains moderate compared to peers. In 2023, the tax wedge for an average single worker was 31.3%, ranking 28th lowest among OECD countries. For families, it was even lower (27.0% for married workers with two children). This relative lightness has supported labour market flexibility.

The Office for Budget Responsibility (OBR) estimates that NIC cuts in 2023–24 will boost labour supply by 199,000 full-time equivalents by 2028/29. Conversely, freezing income tax thresholds may reduce it by 130,000. Crucially, historical NIC hikes did not correlate with unemployment spikes. For instance, NIC increases in 1999 did not trigger a recession, and the 2000s saw GDP growth despite tax rises.

The key takeaway? NIC hikes primarily reduce hours worked, not headcount. Businesses adjust schedules, not jobs, during tax changes—a nuance often overlooked by doom-mongers. This suggests UK equities, particularly those reliant on stable labour markets (e.g., retail, healthcare), are less vulnerable than feared.

Inflation: Tax Hikes vs. Global Shocks

Critics argue that higher Employer NICs will force businesses to raise prices, fuelling inflation. But data from 1975 onward shows no consistent link between NIC hikes and sustained inflation spikes. The late 1970s oil crisis and 2008 financial crash drove inflation, not tax policy.

Moreover, stock markets have historically shrugged off NIC increases. Post-tax hike returns for UK equities (median FTSE 100 performance) were positive in 3/6/12-month periods, except during global crises.

The lesson? Tax-driven inflation fears are overblown unless accompanied by broader demand-side pressures. UK equities, especially defensive sectors like utilities and healthcare, may thrive in a low-inflation environment.

Distributional Effects: Winners and Losers, but Not a Collapse

While tax reforms hit lower-income groups harder (e.g., poorest households losing £1,800 annually since 2010), middle-income groups and pensioners fared better. The triple-lock on pensions and expanded childcare support mitigated some losses.

This distributional tension doesn't equate to economic collapse. Consumer discretionary stocks, for instance, might struggle if low-income households cut spending, but resilient sectors like technology or energy could offset this.

Long-Term Tax Trends: A Sustainable Path

The UK's tax-to-GDP ratio is projected to reach 37.7% by 2027–28—its highest post-war level but still below the OECD average (35.7% in 2021). Denmark's 46.9% tax-to-GDP ratio shows higher burdens can coexist with growth.

This trajectory reflects a balanced approach: higher taxes fund public services (e.g., healthcare) without stifling private enterprise. For investors, this stability favours companies in sectors benefiting from public spending (e.g., construction, healthcare providers).

Investment Takeaways

1. Sector Rotation: Shift toward defensive and public-service-linked sectors. Utilities and healthcare (e.g., BUPA) may outperform as fiscal stability supports demand.
2. Quality Over Cyclicals: Avoid overexposure to consumer discretionary stocks reliant on low-income spending.
3. Long-Term Plays: The FTSE 250, with its focus on domestic businesses, could outperform the FTSE 100 in a resilient UK economy.

Conclusion

History debunks the myth that UK tax hikes doom employment or inflate prices. With a balanced tax-to-GDP ratio and flexible labour markets, UK equities are poised to navigate current policy debates. For investors, this is a call to look beyond short-term noise and embrace the UK's proven resilience.

Final thought: When fear sells, data buys.