How will tax increases affect the UK economy?

With the Autumn Budget just weeks away, all eyes are on Chancellor Rachel Reeves as she prepares to unveil plans to tackle the UK’s financial challenges. As anticipation continues to build, businesses and households alike are waiting for clarity on future tax and spending decisions that could shape the economic landscape for years to come.

With the Chancellor weighing up her options, one economic principle may prove particularly relevant to her decision making – The Laffer Curve. This is a theoretical model that illustrates the relationship between tax rates and tax revenue. It suggests that there is an optimal tax rate that maximizes revenue: too low, and the government collects too little; too high, and it discourages work, investment, and compliance, thereby reducing revenue.

“It’s important to be aware of the basics of the curve with the budget looming because of all of the rumours and predictions of tax rises and how they will affect the UK economy”. – Simon Claxton, Managing Director – Financial Services

How close is the UK to the Laffer Curve peak?

As of late 2025, the UK is arguably approaching – or may have already surpassed – the peak of the Laffer Curve in certain areas of taxation. Here’s a breakdown of the situation:

1.  High marginal tax rates

• The UK’s top marginal income tax rate is 45% for earnings over £125,140, with an effective marginal rate of 60% between £100,000 and £125,140 due to the tapering of the personal allowance.
• Corporation tax was raised from 19% to 25% for profits over £250,000 in April
• These increases may be dampening incentives for high earners and businesses to expand or remain in the UK, especially in a global economy where capital and talent are mobile.

2.  Tax base erosion

• Evidence of tax base erosion includes increased use of tax planning, offshore arrangements, and migration of high-net-worth individuals and companies.
• The UK has seen a rise in non-domiciled individuals leaving or restructuring their affairs to reduce exposure.

3.  Revenue trends

• Despite higher rates, tax revenue growth has been sluggish, especially in real terms. This could suggest diminishing returns from further rate hikes.
• The Office for Budget Responsibility (OBR) has warned that productivity and growth are not keeping pace with fiscal demands, which may be exacerbated by tax disincentives.

4.  Behavioural responses

• The Laffer Curve is not symmetrical; the behavioural response to tax increases can be nonlinear and delayed.
• For example, high taxes on dividends and capital gains may not immediately reduce revenue but can lead to long-term shifts in investment behaviour.

What it means

If the UK is near or beyond the Laffer Curve peak:

• Further tax increases may not yield more revenue and could harm economic
• Tax reform — simplifying the system, broadening the base, and reducing distortions — might be more effective than rate hikes.
• Political implications: Governments may face pressure to reduce taxes or justify them with visible public service improvements.
• Fiscal sustainability: With rising debt and spending pressures (e.g., NHS, pensions), relying on tax hikes alone may be insufficient.

Final thought

The Laffer Curve is not a precise tool but a conceptual guide. Its peak varies by tax type, economic context, and public sentiment. For the UK, the signs suggest caution: pushing rates higher could backfire economically and politically. A smarter approach may lie in rebalancing the tax system to encourage growth while maintaining fairness and revenue stability.