Everyone Is Buying Time in an Unstable World
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In an age when decisions of great consequence are announced — and reversed — in an instant on social media, it may seem like a paradox that governments worldwide are looking to buy time.
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Reeves has left herself with only one way of funding her spending promises
This Wednesday, Rachel Reeves will be in the firing line once again. The event in question will not be a Budget, or even a mini-Budget, but rather a spending review. But such is the pressure on the public finances that the political and economic ramifications will be significant. On the face of it, this review is meant to spell out the details of departmental spending within the overall totals that have already been set to 2028/29 for current day-to-day spending and to 2029/30 for capital spending. Such reviews are not, therefore, meant to be the vehicle for announcing major changes in fiscal policy. There is now supposedly only one major fiscal event for this purpose, namely the autumn Budget, with a subsidiary event, the Spring Statement, which was delivered in March. That said, it would not come as a surprise if the Chancellor increased the spending totals on Wednesday. After all, if defence spending is increased to 3pc of GDP (costing over £17bn per annum by 2029/30) and spending on health increases by 3.4pc in real terms per annum, this would imply that other departments would have to suffer an average real terms reduction in their budgets of 1.8pc per annum out to the end of the review period. Good luck with selling that to the Labour Party. Admittedly, although at one point increasing defence spending to 3pc of GDP was supposedly a 'commitment', more recently it seems to have been downgraded to an 'ambition'. But any leeway you might think this gives is surely undermined by the fact that at last week's Nato meeting in Brussels, there was a call for defence spending of 3.5pc of GDP. And Donald Trump's representative called for the figure to be 5pc. Meanwhile, several recent policy announcements and events have come together to intensify pressure on the Chancellor. It will be interesting to see what she has to say about these on Wednesday and how they can possibly be squared with the existing plans. If she makes no announcements on these matters, then the detailed spending plans that she announces on Wednesday may be viewed as decidedly preliminary. Some of the fiscal pressures on the Chancellor reflect political choices. The Government has announced pay rises for public sector workers in England of between 3 and 5pc in this fiscal year, rather higher than the 2.8pc that the Chancellor had budgeted for. These higher increases will cost up to £3bn. It is no secret that the lurch by Reform UK towards Left-wing economic policies has driven the Government towards increased spending commitments. We don't yet know the full details, but if the Government were to fully reverse the cut to winter fuel payments, the cost would be about £1.7bn. Similarly, under pressure from both Nigel Farage and a significant number of its own backbenchers, the Government is reportedly considering removing the two-child cap on benefits. This would cost another £3.5bn. Meanwhile, a softening of the welfare cuts announced in March would probably cost a further £500m. On a different front, the Government's new migration policy is expected to reduce migration 'by up to around 100,000 per annum'. Whatever you might think of the desirability of such a change, the Office for Budget Responsibility (OBR) would score such a cut as reducing our GDP and thereby raising the likely level of public borrowing, perhaps by about £6bn by 2029/30. Not all the upward pressures on borrowing come from policy decisions. Since March, market interest rate expectations and gilt yields have risen. If this were sustained, then come the Budget in the autumn, another £4bn would have to be devoted to servicing the Government's debt. Over and above this, the OBR could conceivably reduce its forecast for productivity growth. Believe it or not, it has persistently been optimistic about productivity growth, only to be repeatedly proved wrong. At some point, it may well throw in the towel. A reduction of only 0.1pc per year would raise the annual borrowing forecast by about £10bn. The combination of spending increases of over £25bn and an upward revision to the OBR's borrowing forecast of just over £20bn would leave the Chancellor facing a fiscal 'hole' of about £46bn. Unlike before last year's Budget, she may well find this deficit trickier to blame on the previous Conservative government. The Chancellor might well find a bit of wiggle room by tweaking the fiscal rules. After all, in its most recent report, the International Monetary Fund suggested that there might be scope to go down this route. Nevertheless, it seems unlikely she would be able to raise more than about £20bn this way, leaving her with perhaps about £25bn still to find. And she needs to keep a watchful eye on the gilt market. As far as it is concerned, borrowing is borrowing. It is no surprise, therefore, that there is much speculation that huge tax rises are in the offing, perhaps including an extension of the planned freeze on personal tax thresholds by an additional two years, raising about £10bn. There are umpteen other potential personal tax measures that could raise substantial sums. Given that Reform has made much of being able to raise umpteen billions from ending the practice of paying interest on commercial banks' reserves at the Bank of England, however, it would be tempting to shoot their fox. Yet all these calculations assume a relatively small increase in defence spending. If we had to increase defence spending to 5pc of GDP, or even higher, surely the welfare budget would have to give. The Government must be hoping that President Putin's designs on Nato territory amount to just an 'ambition', rather than a 'commitment'. Roger Bootle is senior independent adviser to Capital Economics and a senior fellow at Policy Exchange. Broaden your horizons with award-winning British journalism. Try The Telegraph free for 1 month with unlimited access to our award-winning website, exclusive app, money-saving offers and more.
