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David Laws, Simon Hughes and Ed Balls back proposals to increase allowances, but questions over funding remain
Pressure on George Osborne to raise personal tax allowances further and faster in the forthcoming budget as a way of stimulating the economy grew on Sunday when the Liberal Democrats David Laws and Simon Hughes, and the shadow chancellor Ed Balls, all backed the proposal.
The Lib Dems have decided to mount a public campaign to urge their coalition partners to raise the personal allowance further, a tax cut long favoured by the party but also seen as a way of stimulating demand at a time of low growth.
It is significant that Hughes, the Lib Dem deputy leader and a leading figurehead of the party's left, is backing the campaign alongside Laws, the party's leading economic liberal.
Laws quit as Treasury chief secretary soon after the government was formed, but has continued with a discreet backroom role, aiding Nick Clegg across Whitehall. He will spell out why he believes the personal allowance should be raised in a broadcast interview on Monday night and in newspaper articles. A Lib Dem party election broadcast will also be devoted to the subject on Wednesday.
Meanwhile, Balls has asserted that tax cuts are now the best short-term route to stimulating demand in the economy, moving away from his previous emphasis on extra Whitehall spending, a position that wins little support among those worried by the existing deficit.
Even unfunded tax cuts win more support from voters than extra government spending, though the impact on borrowing is the same.
Balls insisted his preference was still for tax cuts built round a temporary cut in VAT costing £12bn, and acknowledged that the tax cut would raise borrowing.
Writing in the Sunday Times, Balls argued that while some people may be surprised to see Labour prioritising tax cuts, in a crisis there was "a premium on what works effectively and quickly" to get the economy moving.
"But if George Osborne can't bring himself to reverse his VAT mistake, he has other options," said Balls. "For the same amount of money, he could cut the basic rate of income tax by 3p for a year. Or raise the income tax personal allowance to over £10,000. Or increase tax credits for almost six million working people by around £2,000.
"It would be better to cut VAT now – it's fairer and quicker and would help pensioners and others who don't pay income tax. But any substantial tax cuts to help households and stimulate the economy would be better than doing nothing."
Clegg has not specified how much more quickly he would like to see the personal tax allowance raised or how he would fund it, apart from insisting that it would have to be funded and not merely paid for through extra borrowing.
In a speech to the Resolution Foundation in January, he did however promise that any increase in personal allowance would not be funded through cuts to tax credits or other spending cuts, and said the wealthy would have to bear the burden.
Gavin Kelly, chief executive of the Resolution Foundation, underlined the significance of the Lib Dem move: "Up until now each rise in the personal allowance ... has been funded in part at least by cuts to tax credits and increases in taxes that particularly hurt the precise group the Liberal Democrats state they are seeking to help.
"This has neutered their claims to being a force for tax fairness. Clegg's new and unmistakable message is that this time it will be different. From now on the wealthy should pay for further increases in tax allowances – through higher taxes, less avoidance or cuts in tax reliefs"
The Lib Dems have accepted that tax allowances could not rise to £10,000 in one budget, suggesting they would like to see the £10,000 target increased over the next two budgets.
One senior Lib Dem said: "We can now see where we stand as a party on tax cuts and a stimulus. You can see where Labour is, and you can see the Conservative right calling for corporation tax cuts. The question remains: what is the policy of the Conservatives in government?"
The previous Conservative call for an early cut in the 50p top rate of income tax has been dulled by the general political anger over bonuses and boardroom greed, making the move politically unsustainable.
A senior Lib Dem source said: "The unusual situation of coalition government has resulted in the equally unusual step of both Nick Clegg and Danny Alexander publicly stating their ambitions for the budget. But now that the budget quad meetings [between Cameron, Clegg, Osborne and Alexander] have begun, those discussions remain highly confidential.
"It is now a campaign spearheaded by leading lights in the party but not in government. The fact that David Laws is one of those people should be a clear signal to Conservatives in the coalition that tax cuts are seen as both essential and fiscally responsible."
David Davis, the Tory backbencher and former leadership candidate, speaking on the BBC's Andrew Marr programme, argued that capital gains tax and the top rate of income tax should be cut.
Davis's words add to the growing calls from Conservatives for tax cuts to stimulate the economy. David Ruffley, another Tory backbench MP, said recently: "The markets will not go haywire if there was a modest loosening in borrowing in the short run if it was for the right reason."
Michael Fallon, the Tory deputy chairman, argued that Balls' plans would add £12bn to the national debt every year. He said: "Ed Balls has clearly learned nothing from his time as Gordon Brown's right-hand man."
• This article was amended on 21 February 2012. The original said that David Laws quit as Treasury chief secretary soon after the government was formed, but has continued with a discrete backroom role. This has been corrected.