Will the UK budget do enough to boost foreign investment?

Budget that will simultaneously raise taxes, spending and borrowing is aimed at attracting investors, but there are concerns Britain may become less attractive to international capital

Britain's Prime Minister Keir Starmer meets with Britain's Chancellor of the Exchequer Rachel Reeves, before Wednesday's budget, the first of the new Labour government. AFP

International investors are eagerly awaiting signals from UK chancellor Rachel Reeves that Britain is indeed “open for business” and that Labour will live up to its mantra of “a new approach to growth” based on “stability, investment and reform” when she delivers her first budget on Wednesday.

But as the most heavily leaked budget speech in many years approaches, there is a difficult balance to strike between plugging financial black holes and putting off the very people who can afford to solve the problem.

“The UK still has a lot going for it,” Switzerland and Dubai-based international investor and entrepreneur Dr David von Rosen told The National, but he cautioned that if it hits the wealthy too hard, it would backfire. “It will certainly dampen the scale of investment and appetite to invest in the UK,” he said.

However, Prime Minister Keir Starmer said that Wednesday's budget, the first by a Labour government since 2010, will mean Britain has “better days are ahead” and “everyone can wake up on Thursday and see that a new future is being built, a better future. The time is long overdue for politicians in this country to level with you honestly about the trade-offs this country faces, to stop insulting your intelligence with the chicanery of easy answers.”

But the UK government has been accused by the opposition Conservatives of being in “chaos and disarray” after it was forced to quash an announcement it made last week regarding the country's freeports. Last Friday, Mr Starmer said five new freeports will be unveiled in the UK in this week's budget speech.

However, by Monday the government had been forced into what the Conservatives called a “humiliating U-turn”. The Chancellor will not announce new freeports in addition to the 12 existing ones but instead will confirm funding for “next steps”, which green light customs centres for three freeports that currently don't have them. However, Dr Peter Holmes, fellow of the UK Trade Policy Observatory at the University of Sussex, told The National that the government is “just letting them open sites they were supposed to have had years ago”.

But while the Conservatives claim the whole communications debacle has damaged business confidence in the UK, international investors will be waiting until after the budget speech is over before making any judgements.

After the first meeting of the Growth Mission Board in July, the first secretary to the Treasury, Lord Livermore, said the government was working on breaking down “very big obstacles” to inward investment. The trouble is foreign investment is unlikely to flow into an economy that not only is still struggling but where companies have a heavy tax burden.

While Labour has pledged not to raise a whole host of taxes, including income taxes, it does need some nimble footwork to avoid creating a profit-oppressing environment, while nurturing a fragile economic recovery. As such, this is likely to be a budget that raises taxes, raises spending and raises borrowing simultaneously. In doing so, Ms Reeves will hope to create a place where international investors want to put their money.

International investors watching

Tax breaks for companies and investments in strategic industries, like green and clean tech, life sciences and manufacturing using advanced materials are expected to continue, especially within investment zones. Indeed, at the International Monetary Fund meetings in Washington last week, Ms Reeves remarked that her first budget will “invest in the foundations of future growth”.

However, Ms Reeves is also widely expected to unveil a rise in the payroll tax and employers' national insurance. Investors in big companies are concerned about this, mainly because this is essentially a tax on the size of a workforce, rather than on profit. Neil Carberry, chief executive of the Recruitment and Employment Confederation has described it as a “really damaging way to raise the money”.

Another worry for investors is a possible rise in capital gains tax. If that rises significantly above the current 28 per cent, it stands to jeopardise the position of the UK as a place for tech entrepreneurs, who can gain substantial tax relief in the early stages of a company's development under a host of enterprise schemes. A big jump in CGT would threaten the status of Britain as a green and clean tech start-up country and international high-net worth investors may look elsewhere.

“The UK is becoming less and less of a welcoming environment for high-net-worth individuals, and it looks like the budget is only going to compound this,” said Dr von Rosen. “Whether it’s raising capital gains tax, increasing employer NI, or hiking corporation tax, all of these will be a hit to the movers and shakers with the pockets deep enough to invest in and build the UK economy.

“I understand the rationale – the UK is strapped for cash, and it has to do something. But I worry that rather than having the intended effect of opening up more wiggle room for investment in growth, it will do the opposite, by turning HNWs around and pointing them the other way.”

Foreign Direct Investment has been struggling recently, but Ms Reeves will be looking to turn that around. According to Department for Business and Trade (DBT) figures, 1,555 new FDI projects “landed” in the UK in 2023/24, a fall from 1,654 in the previous financial year. In this case, the term “landed” refers to new enterprises, additional investment and mergers and acquisitions. FDI peaked in 2016/17 at 2,265.

Overall, former Bank of England economist, Stuart Cole, feels there will be precious little to grow FDI in the budget. “I am sceptical Ms Reeves will be able to do much to boost FDI in the budget,” he told The National. “I think international investors will want to digest exactly what Labour’s stance is regarding businesses before committing further funds while being sure the nascent economic recovery we are seeing is not going to be snuffed out via excessive public spending, taxes and borrowing.”

Investment zones

One area of the budget that might prompt interest among domestic and international investors is investment zones – specific economic areas with different tax rules, lower business rates and looser planning regulations aimed at supporting companies and creating jobs. The companies, however, have to be involved in some way in the growth of certain sectors, including advanced manufacturing, digital and tech, green industries and life sciences.

An investment zone can have three specific designated sites within it where the tax breaks and other benefits will apply, which include relief on stamp duty, business rates and employer’s national insurance contributions. These sites can total no more than 600 hectares within any one investment zone.

There are already six investment zones in operation in Greater Manchester, Liverpool, the North East, South Yorkshire, the West Midlands and West Yorkshire. Ms Reeves is expected to unveil details of the East Midlands Investment Zone, which will focus on the advanced manufacturing and green industries sectors across Derbyshire and Nottinghamshire, in her speech on Wednesday.

“The main aim is to make it as easy as possible for businesses, incentivise them to come and locate here, and help them really with a head-start to grow their businesses and make sure they can develop in the best way possible,” Tom Goshawk, head of investment strategy and programmes for the East Midlands Combined County Authority (EMCCA) told The National.

One of the EMCCA's aims is to attract FDI into the investment zone and the broader region. “There's a definite benefit for international companies to locate in the East Midlands as part of the designation [as an investment zone],” Mr Goshawk said.

Freeports

Freeports came back into focus in the UK mainly as a consequence of Brexit, with former prime ministers Boris Johnson and Rishi Sunak among their strongest advocates and the government claims they “create an attractive business environment” while “spearheading our journey to net zero, and creating thousands of long-term, high-quality jobs for local people”. A free port is usually designated in an area that needs economic uplift where port facilities exist but can be upgraded. Like investment zones, these areas become subject to tax relief, but with the added benefit of different customs duties rules. For example, seven of the UK's 12 freeports have several customs zones where companies only pay tariffs on finished products, not on the raw materials used to make them within the free port.

The UK's freeports are located near the ports in Inverness, the Forth, Teesside, the Humber, Liverpool, Anglesey, Milford Haven, Plymouth, the Solent, the Thames, and Felixstowe and Harwich, as well as close to the East Midlands airport. According to official figures, they have attracted £2.9 billion of investment and created an estimated 6,000 jobs.

However, some argue the true value of freeports to the UK is not easy to ascertain. Stuart Adams, senior economist at the Institute for Fiscal Studies told The National that it is “difficult to predict whether freeports will lead to enough regeneration and economic growth to justify the cost. Indeed, we will probably never know how much of the subsidised activity in freeports would have happened anyway without the subsidies, perhaps elsewhere in the UK”.

UK free port locations

Pluses and minuses

Investment zones and freeports are essentially a policy evolution of enterprise zones which were developed in the 1980s, particularly in coal-mining areas where that industry eventually collapsed leaving thousands out of work. Whatever the label has been over the years, while supporters say they bring much-needed jobs and economic uplift to otherwise deprived areas, critics maintain the taxpayer funds spent on making them attractive for investment would be better spent elsewhere.

“They are basically the government subsidising businesses that otherwise may not have started up without this financial support,” Mr Cole told The National. “This suggests they are either uneconomic and will go out of business once the support ends, or at the other end of the spectrum will have opened anyway, but will happily take the money offered by the government. Either way, I am sceptical these sorts of schemes represent good value for UK taxpayers.”

But supporters of investment zones and freeports say there could be an intangible benefit in the shape of agglomeration, where a concentration of companies in one industry creates efficiencies and economies of scale. Silicon Valley and Hollywood are good examples of this. For Mr Goshawk, Rachel Reeves's speech on Wednesday may not immediately turn the East Midland region of Britain into an 'advanced manufacturing Silicon Valley' of a 'Net-Zero Hollywood', but it does at least fire the starting gun on the investment drive. “It really turbocharges and kick-starts what we're looking to do,” he told The National, “it means we can go and shout about the investment zone, look to start targeting that inward investment and look to develop the programmes to support and aid businesses to really grow in the area”.