Monday, January 13, 2025
Will Reeves be forced to break her own fiscal rules?
She says that last week’s market moves, which drove 30-year gilt yields to their highest level since 1998, probably had more to do with the chaos to come in the US than Reeves’s budget plans, but whatever the cause, if it is sustained, the jump in yields will push up the interest bill on the government’s vast debt pile, and that would jeopardise Reeves’s hopes of meeting her fiscal rules:
Mark Carney, the former governor of the Bank of England, once warned that the UK was “reliant on the kindness of strangers” (specifically foreign investors) to fund its deficits – and therefore subject to the whims of the markets. It is all the more true post-pandemic, given the sharp surge in government debt.
When the mood of those strangers swings against the government, it is hard to ignore. Some analysts even fear investors may be influenced at the margins by Elon Musk’s obsession with what he seems to think is the dire state of the UK.
Take all this into account, and imposing a tougher spending squeeze on Whitehall departments in the later years of the upcoming spending review than Reeves sketched out in the autumn may seem a reasonable response. It is certainly the one government officials have been pointing to, alongside dark hints about the benefits bill and the need for public sector pay restraint.
Yet as the Resolution Foundation pointed out on Friday, kneejerk spending cuts are not just digits on a spreadsheet but will have material implications (see last year’s decision to scrap the winter fuel allowance for the vast majority of pensioners – also made with fretful markets in mind).
The thinktank warned Reeves against “taking permanent and concrete policy decisions with real-life impacts on households, in reaction to bond market movements that may turn out to be temporary”, urging her to “keep calm and carry on” until the autumn budget.
Doing nothing at all could rile the gods of the bond markets – risky for any chancellor, as Kwasi Kwarteng can attest.
The Institute for Fiscal Studies has pointed out that the projections for the final years of the spending review period already look eye-wateringly tight, with growth of only 1.3% a year pencilled in after 2025-26. The margin for error is very narrow indeed.
Labour went into the election promising not to raise taxes. At the same time, public services are approaching crisis point and desperately need new investment.
Unless economic growth picks up, Reeves is going to find herself caught between a rock and a hard place. Will she be forced to cut spending, or will she break her election promise once again and put up taxes? It isn't a very comfortable place to be in.
Unless economic growth picks up, Reeves is going to find herself caught between a rock and a hard place. Will she be forced to cut spending, or will she break her election promise once again and put up taxes? It isn't a very comfortable place to be in.
