Britain has no more capacity to borrow as Starmer's costly U-turns mount

Telegraph

28-05-2025

At first glance, the International Monetary Fund's latest forecast for the UK economy looked remarkably positive.
Growth will be higher than projected a month ago. The economy will accelerate despite the trade war. Rachel Reeves's strategy was praised as 'credible and growth-friendly'.
But beneath the surface are dire warnings. The population is ageing rapidly, putting pressure on the Government to spend ever more on care. Britain's huge debt pile and high interest rates make borrowing difficult. 'Difficult choices' loom on tax and spending.
The IMF repeatedly urged Reeves to 'stay the course' on plans to stabilise the finances and bring down annual borrowing.
Instead, the run up to the IMF's update was marked by a series of about-turns on benefits and public sector pay that will force the Chancellor to find billions. The Government has abandoned its cuts to winter fuel eligibility, and is looking at dishing out more benefits to parents by reviewing the two-child limit.
The IMF warned that such promises can not be funded by borrowing: 'The authorities will need to offset that with other savings measures somewhere else. Our view is that these other measures could be both on the tax or on the spending side,' said Luc Eyraud, the IMF's mission chief in the UK.
That is a very diplomatic way of putting it. Effectively the British state is so broke that it cannot afford even tweaks which are relatively modest – at least compared to total government spending, which is on track to hit £1.5 trillion per year later this decade – without clawing the money back elsewhere.
Reeves has already bumped into this problem several times. Despite attempting a reset of the finances last autumn in a Budget that saw taxes raised and spending cut, Chancellor was forced to come back for more just months later in the spring.
The immediate cause of her woes is the fact that she is sailing so close to the wind, running the finances with a buffer of less than £10bn against her borrowing targets. It means every hiccup in growth, productivity or the path of interest rates can throw her finances off course.
The IMF has suggested Reeves 'refine' her fiscal rules and seek to lessen the public attention on the targets, thus avoiding the storm of speculation over tax cuts that occurs every time borrowing costs shift around in bond markets.
It proposed tweaks to the way forecasts from the Office for Budget Responsibility (OBR) are used, including 'de-emphasising point estimates of headroom in OBR assessments of rule compliance; establishing a formal process so that small rule breaches do not trigger corrective fiscal action outside of the single fiscal event; or assessing rules only once per year at the time of the fiscal event.'
Unfortunately it is not the precise definition of the fiscal rules, nor how neatly the Government hits them, which really matters.
The real problem is that the Government has an enormous mountain of debt, agonisingly high interest payments – more than £100bn per year – and faces the threat of worse to come given ructions in the global economy and tensions in financial markets.
The fiscal rules are an acknowledgement that the Treasury needs to keep a tight hold on the public purse to avoid a blow up, and loosening the rules or their enforcement is not a way to sidestep that threat.
It is a point made by Mel Stride, the shadow Chancellor, who says: 'The IMF have been clear that the first solution should be to leave greater headroom against the fiscal rules.'
'In a context where the Chancellor's credibility is already in tatters, changing the goalposts a second time would run real risks with market confidence.'
Even if Reeves sticks to her fiscal rules this decade, the ground is shifting beneath her feet. Britain's population is getting older, putting greater pressure on healthcare costs and leaving a smaller population of taxpayers to pay for care.
The IMF warned: 'In the longer term, difficult fiscal choices will likely be needed to address spending pressures and rebuild fiscal buffers. Under current policies, staff analysis suggests spending to be around 8pc of GDP higher by 2050, mainly due to additional outlays on health and pensions from population ageing.'
Government spending amounts to around 45pc of GDP now, which would rise firmly above 50pc on these IMF projections. Given that the national debt is already above 100pc of GDP on the watchdog's measure of gross indebtedness, that rise in spending will require major tax rises or spending cuts elsewhere.
'There is limited space to finance this spending through extra borrowing, given high debt and elevated borrowing costs,' the IMF said.
'Unless revenue is increased, for which there is scope, tough policy decisions on spending priorities and the role of the state in certain areas will be needed to better align the coverage of public services with available resources.'
Yet taxes are already heading up to their highest level since the Second World War.
That this is a global problem only makes the situation worse. Governments around the world are borrowing too much. Donald Trump's latest round of tax cuts add to America's swelling debt. Emmanuel Macron's series of prime ministers have struggled to bring down French borrowing without sparking street protests. Interest rates charged to Japan's government by investors have hit record highs.
Agustin Carstens, head of the Bank for International Settlements, known as the central bank for central banks, warned that governments across the world are borrowing too much and risk destroying trust in money and in the financial system, with potentially devastating ramifications.
'It is essential for fiscal authorities to curb the relentless rise in public debt,' Carstens said in a speech in Japan.
'The low interest rate environment that followed the global financial crisis flattered fiscal accounts. Large deficits and high debt seemed sustainable, allowing fiscal authorities to avoid hard choices. But the days of ultra-low rates are over.
'Fiscal authorities have a narrow window to put their house in order before the public's trust in their commitments starts to fray. Markets are already waking up to the fact that some paths are not sustainable.'
That is a warning that interest rates could spiral if debt investors refuse to back a government's borrowing plans.
'Fiscal consolidation in many economies needs to start now. Muddling through is not enough,' he warned.
'In many countries, current policies imply steadily rising public debt in the coming decades. Pressures for more public spending will only increase, not least due to population ageing, climate change and, in many jurisdictions, higher defence spending.'
Carstens did not single out any countries by name, but his words echo closely the IMF's fears for Britain's long-term debt.
Their warnings show Labour's spending dreams risk a collision course with financial reality.