Budget 2025 special

Afternoon all,

As someone who has worked with him closely from the Treasury side let me tell you something – Richard Hughes can be very annoying. He is stubborn in the face of lobbying. He unites with his team even when they make mistakes. He argues with the fervour of someone who is in it because they care. For those same reasons he is a phenomenal chair of the OBR. If you ever hear a Chancellor say they find the Chair of the OBR charming and malleable then sell your gilts.

We had an excellent question at our Budget event this week – should more people input into the absolutely critical judgements in an OBR forecast? I could see a strong case for adding one or two more wise heads to the Budget Responsibility Committee (and perhaps a little more to their IT budget too). But taking anyone away would be a mistake.

The OBR made a serious error on Wednesday, which they are looking into. Those of us who care about the independence of institutions, especially those that must speak truth to power, shouldn’t allow that to be an excuse to bring them down a peg or two.

Today’s TOTC special focuses on the Budget. But we got some good news yesterday with the Government agreeing to reduce the qualifying period for protection against unfair dismissal from 24 to 6, rather than zero, months. This strikes a happy balance between making work a lot more secure for vulnerable workers, without putting firms off hiring new staff (especially crucial given the UK’s growing unemployment problem). Read this briefing to understand why the right call has been made.

Have a great weekend – I know the RF team will be looking forward to catching up on their sleep,

Ruth

Chief Executive
Resolution Foundation

“Unexpected” forecast luck for the Chancellor

We were warned that the economic backdrop would be bleak. Productivity was downgraded as expected – we reckon it increased borrowing by £18 billion in the crucial year of 2029-30 (once we estimate its effect on spending as well as receipts). So far so well trailed….But the overall economic deterioration was just £5.5 billion. And in fact, that means the bad news was entirely explained by the intricacies of the fiscal forecast rather than the economy at all. If we removed the OBR’s judgement on local authority borrowing, the economic backdrop would show almost no change.

How so? Wages came to the rescue! As we predicted, the OBR’s gloomy outlook for nominal pay was increased (the first blue bar), as was the labour share of GDP (i.e. the share of growth that goes into pay packets not profits, shown in the second blue bar). The tax richness of these punchier earnings alongside an important OBR judgement that the savings ratio will decline also feed into higher consumption (the third blue bar). All in all, the Chancellor received a £30 billion boost in revenues in 2029-30. Those still interested in quite when the Treasury learned this news may want to explore here.

The Chancellor delivered a ‘tax and spend save’ Budget

So, we knew this wasn’t going to be an easy Budget. On top of a slightly weaker forecast, the Government had to pay for £6.9 billion of policy U-turns and some all-important poverty-busting rabbits. To that end, the Chancellor has turned (mainly) to tax. The first two Budgets of this Parliament have now raised £70 billion a year in 2029-30 from tax rises, beating the £63 billion Lamont/Clarke doubly whammy in 1993.

But, as the left-side of the next chart shows, this week’s Budget was all about tax-and-*save*. This Chancellor hasn’t just restored her headroom against her fiscal rules, she has more than doubled it. The right-side chart also puts paid to the notion that this Government is ratcheting up tax to supplement huge increases in welfare. The pink bars show that while welfare spending played a significant (minority) role in this Budget, this is all about the back-and-forth of cuts not made. Actual new welfare decisions represent a tiny fraction of spending decisions made over the Parliament as a whole. In fact, changes to welfare spending over the course of this Parliament total just £0.5bn in 29-30. Big picture taxes and borrowing are going up to pay for higher departmental spending.

Where does the Budget register on the smorgasbord-o-meter?

The Budget has been widely described as a smorgasbord – the latest insult sweeping through Westminster village that I suspect won’t make it to the school gates. So was this a Budget that had a particular buffet feel? To test this, we have created a ‘smorgasboard-o-meter’ to measure Budget 2025 against others in recent history.

As our next chart shows, this Budget certainly didn’t max out on our measure of piece-meal-ness. In fact, it was firmly middle of the pack in terms of number and size of tax measures when compared with other fiscal events over the last 75 years. I’d call this Budget more of a meal-deal, and less of a smorgasboard.

The tax pledge in the manifesto has ended up costing working people.

Amidst the meal-deal was one eight-digit revenue-raiser. And those of you who’ve been away for the past two weeks know what was coming – the first rise in Income Tax rates in 50 years. You even saw a speech from the Chancellor hinting at it. Of course, those of us who’ve been chained to our desks in the interim know that the policy got ditched, with the Chancellor opting instead for the tax lever pulled by two Chancellors in the last Parliament – freezing personal tax thresholds. This lever is better politically – it doesn’t smash the manifesto, it’s been done by both parties, and it’s less unpopular with the public. It may even be better for work incentives. But is it better for ordinary workers? No, as the chart below shows.

For virtually everyone, threshold freezes are flat cash losses, depending on which income rate band you’re in (£220 for a typical earner, £660 for a higher earner and £440 for a very high earner). Plus the existing absence of a personal allowance for those very higher earners dampens the impact at the top. In contrast, the cost of a rate rise grows as your salary increases. The net result is that anyone earning less than £35,000 a year – i.e. the majority of employees across Britain  – lose less from a rate rise than they do from a threshold freeze. Comparing the two policies across the household income distribution, all but the richest ten per cent would have been better off with a threshold freeze. (or all employees on a 2p switch of course…).

Taking on mansion dwellers

Wealth was far more prominent in the Chancellor’s Budget speech (mentioned six times) than in the measures she actually announced. A striking contrast to the previous year when she mentioned it little, but taxed it quite a lot! Trailed moves to further close Capital Gains Tax loopholes never materialised. But the Chancellor did make some changes to property taxes in applying a surcharge on homes worth at least £2 million.

One thing UK economists of all persuasions can agree on is that our property tax system is a complete mess and needs a total overhaul. The poorest fifth of households spend more than three times as much of their income on Council Tax as the richest fifth of families do (4.8 vs 1.5 per cent). And if you want to tax wealth more, property is a good place to start. The policy in this Budget does not address many of the issues on property taxation. But it does make the current system slightly less regressive, and that’s a good thing.

Even after the mansion tax is applied, the owner of a £5 million home in Westminster will pay proportionately less in property tax than the owner of a £210,000 Band B property in Sunderland. A step in the right direction, but not a good place to stop…

Large families and larger fiscal buffer emerge triumphant

You’ll have heard all about the losers from the Budget, but who emerged victorious? Strangely, for all the talk of a left-wing Budget, fiscal rules have come out on firmer footing, with the Chancellor more than doubling her headroom. But the real-world winners are poorer families with three or more children: over half a million will gain £5,310 on average in 2029-30 from the scrapping of the two-child limit. They’ll also benefit disproportionately from the welcome action to cut energy bills as they tend to have higher energy usage.

The chart below shows that family type matters for whether the poorest gain or lose from this Government’s tax and benefit changes. Families with children in the bottom four deciles are the only net winners, when we compare with pensioners and families without children. At the same time, poorer families without children are the biggest losers as a proportion of their income, as they are more likely to be hit by the cut to UC-Health (for new claimants). All family types in the top half lose out slightly, but the very richest are not hit any harder than the upper middle. And bingo exemptions aside, this is a Budget that neither exacerbates or addresses the generational divide.

Is this windfall for poor families with kids warranted? Absolutely yes, because the bleak backdrop behind this rare win for families with kids is a period of acute benefit cuts. Those cuts have hit hard on poverty rates, and meant  two decades in which the living standards of families with kids have been bleaker than most, growing at a third of the rate of pensioner households even in a period of general stagnation.

Ultimately, any verdict on the ‘success’ or otherwise of this Budget will depend on what tests you thought it needed to pass. If your priorities are keeping to the letter of manifesto promises, then this might not be the Budget for you. But if you’ve got stopping the relentless rise in child poverty, fiscal prudence and incremental tax reform on your Christmas list, I think it’s hard to say this Budget was anything other than a step in the right direction.

How should we think of the Budget this week? Viewed from a tax and benefits perspective, this was a classic Labour Budget – progressive tax rises, and additional welfare spending to tackle child poverty. But from a fiscal perspective it was a (small c deliberate…) conservative Budget, with those tax rises largely to shore up the public finances. Clear messages have been sent to Labour backbenchers and the markets. The big question is what the public make of those messages, and, relatedly, how much of the back-loaded fiscal pain will be delivered ahead of the next election.