Inflation shock is bolstering tax revenues, but putting public services under further strain

Strong tax revenues have helped public borrowing come in £11.4 billion lower than the Office for Budget Responsibility (OBR) forecast in the financial year to date. But while inflation is flattering the public finances today, it is putting even greater pressure on public services whose budgets will need to be revisited in the near future, the Resolution Foundation said today (Thursday).

The latest public services data show that borrowing was in £11.6 billion in August, and £69.6 billion in the first five months of the current financial year – £11.4 billion below the OBR’s March forecast.

Lower than forecast borrowing has been driven by higher than expected tax revenues, £12.6 billion higher than forecast, with high nominal wage growth (coupled with frozen tax thresholds) significantly boosting the tax take.

The Foundations cautions however that this revenue boon is partly offset by higher debt interest servicing costs, £43.5 billion so far this year – in line with the PBR forecast, and strained public services, whose budgets were before the current inflation shock back in 2021. Higher inflation will eventually lead to higher public service spending, and additional borrowing. It adds that the public services cuts pencilled in for some departments after the next election are even less tenable, and will need to be revisited.

Cara Pacitti, Senior Economist at the Resolution Foundation, said:

“Strong nominal wage growth in response to the current inflation shock are delivering revenue-rich economic growth, and lower than forecast borrowing.

“But while high inflation is helping to make the public finances look healthier, it is having the opposite effect on our public services, whose budgets were set before the cost of living crisis.

“The Chancellor may choose to bank the good borrowing news from higher inflation and ignore the  public services pain it is causing in his upcoming Autumn Statement, but that challenge will need to be confronted by whoever wins the next election.”