Black holes and consolidations

Previewing the key decisions for Budget 2025

4 November 2025

Camron Aref-Adib

Elliott Christensen

Alex Clegg

Adam Corlett

Ruth Curtice

Jonathan Marshall

Louise Murphy

James Smith

The upcoming Budget is a make-or-break moment for the Government. It seems clear that this month’s fiscal event will include significant spending cuts and tax rises spurred by a significant deterioration in the public finances. The challenge for the Chancellor, then, with the economy far from rosy and the Government deeply unpopular, is to improve the mood music around her economic policy agenda while also delivering a tightening in fiscal policy.

The Office for Budget Responsibility’s (OBR) big economic judgement at this Budget will be its revised view of the UK’s ‘trend’ productivity growth – effectively our economic ‘speed limit’ – where a downgrade is widely anticipated. It has been briefed that there will be a 0.3 percentage point downgrade, punching a £20 billion hole in the public finances. There is, however, a good chance that other changes to the economic outlook provide some relief for the Chancellor. Chief among these is wage growth. Overall, our modelling suggests that, before any new policy announcements, changes in the economic outlook, as well as u-turns since March, are likely to lead to a rise in borrowing of around £14 billion, more than wiping out the £10 billion of headroom against the Chancellor’s ‘current borrowing’ fiscal rule.

So, although there is much uncertainty about where the forecasts will ultimately land, these numbers point to a bleak picture for the public finances. Against a backdrop of volatility in government borrowing costs, this reinforces the need for the Chancellor not just to fill the fiscal hole, but to take steps to boost financial-market confidence. This means she should aim to double the level of headroom held against her fiscal rules to £20 billion, or, perhaps more realistically, increase it to £15 billion.

Key findings

Changes to the Budget’s economic outlook are likely to be framed by the OBR’s decision on ‘trend’ productivity growth. Marking this ‘speed limit’ down, as the OBR is widely expected to do, leads to lower forecasts for GDP growth and, hence, less extra tax each year into the future. Based on our best guess, the economy would be 0.7 percentage points (£25 billion in nominal terms) smaller than previously forecast in four years’ time. This would erode the public finances by around £14 billion, primarily through lower tax receipts. This would still be enough on its own to wipe out the Chancellor’s thin headroom against her fiscal rule to balance the current budget, of £9.9 billion in 2029-30.
Despite a bleaker outlook for productivity, the OBR must also make a key judgement on wages. Wage growth has been easing in recent months, but higher than expected back in March. We expect the OBR to judge that its March forecast for wage growth was implausibly weak (Figure 6), and so raise it. The impact of faster growth in wages reduces borrowing by around £13 billion, set against the £14bn hit to public finances from the lower trend productivity growth.
The Government must also brace for bad news from the recent public finances data. Public sector borrowing was £99.8 billion in the six months to September, £7.2 billion above the OBR forecast, although just £1.5 billion of this reflects weaker central-government data. Accounting for this, we would have expected receipts to be roughly 0.5 per cent stronger than outturns. We judge that around half this weakness in the public finances data is likely to persist. Higher debt interest costs are also likely to worsen the public finances. The cost of borrowing for the Government has been volatile in recent months. By 2029-30, we estimate debt interest is adding nearly £6 billion to borrowing.

Recommendations

Although it looks like we heading for a big deterioration in the public finances, the Chancellor will also have to think about where to provide some good news. The focus here should be supporting living standards and helping families struggling with the cost of living. A credible strategy to support living standards and reduce poverty must scrap the two-child limit. Scrapping the two-child limit in full would mean 480,000 fewer children growing up in poverty in 2029-30 compared to our projection based on current policy, a crucial step if the Government is serious about reducing child poverty. This would cost £3.5 billion in 2029-30 (£7,280 per child), and although the price tag is significant, it would be the most cost-effective option.
Another priority to help lower-income families should be electricity costs, with average bills up around £600 in cash terms, or 25 per cent in real terms, above their levels before Russia’s invasion of Ukraine. The Government should reduce the bits of energy bills it can control directly, moving social and net zero levies on electricity bills into general taxation, costing £3.5 billion in 2029-30. This would cut typical energy bills by £160 a year, bringing down inflation by 0.3 percentage points, as well as reducing the relative price of electricity compared to gas, supporting the move to net zero.
The Government must also go further and faster on growth. The prime candidate for going faster on growth at this Budget is on tax. Reforms to tax policy that would also support growth include business taxation and property taxation. Most obvious here would be lowering the UK’s high VAT registration threshold, which harms growth by encouraging firms to hold down their turnover and could raise £2 billion. Another measure could be cutting non-residential Stamp Duty Land Tax, which we have previously estimated would cost the government up to £2 billion, to help boost investment and dynamism in the corporate sector.
Part of the response to the deterioration in the public finances will come from spending cuts. But the lesson from the Government’s botched attempt to announce benefit cuts in time for the Spring Statement is that such reforms should not be rushed. That leaves lower departmental spending. Given that the Chancellor set department spending totals through to 2029-30 just four months ago in the Spending Review, the scope for cuts here is limited, but freezing departmental spending in real terms in 2029-30 – itself no mean feat – would yield £5 billion of savings.
This would leave the Chancellor needing to raise taxes by £21-26 billion. Any tax changes must, as far as possible, limit the damage to the economy, while reassuring markets that there is a plan if the public finances deteriorate further. We argue the best option is to raise Income Tax by a 2p rise across all three rates, offset by a 2p cut in employee National Insurance. This would raise £6 billion while protecting most workers. Other measures are almost certainly going to include some form of extension to the freeze in personal tax thresholds, potentially raising £7.5 billion if done for two years. Beyond that, measures should prioritise pro-growth reforms of the tax system.

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