Stairway to headroom

The great drumbeat of doom that preceded the Chancellor’s big day turned out to be over the top: the forecasts came in better than many had feared. Still, in the face of high borrowing and sticky inflation, she had crucial hurdles to clear – fixing the public finances and easing the squeeze on families. Not two things it is easy to do at the same time. And if that were not enough, there was every danger of being tripped up by her own revenue- raisers, unless she could tax smartly in a way that was fair, sustainable and compatible with finally achieving the growth that is the only way to escape gloomy budgets in future. This report assesses whether Rachel Reeves has been able to clear each of these three bars.

The repair job

In the end, the backdrop was not as grisly as the alarming reports ahead of the Budget, because expectations about wages (and the taxes paid on them) have picked up, offsetting the OBR’s deepening pessimism about productivity. The most important borrowing forecast only sank by £5.5 billion. That deterioration was considerably less than the average absolute move in forecast total net borrowing of £21 billion that is typically seen between fiscal events. It is, frankly, the sort of variation that prudent planning should be able to absorb.

Nonetheless, going into the Budget, a repair job was plainly necessary – not least because of the £6.9 billion of Government U-turns since the Spring, notably restoring the Winter Fuel Payment to most pensioners and backing off on the biggest disability benefit cuts. Moreover, before Budget day, the Chancellor had decided she had had enough of being buffeted by events. Having left herself with almost no room for manoeuvre last time, she wisely decided to build more contingency into her arithmetic, and pencilled in a fiscal tightening in 2029-30 which put her a projected £22 billion clear on her budgetary rule.

So how prudent was she? A plan to clear this first hurdle by £22 billion is obviously more likely to come off than the previous plan to pass by just £10 billion. Moreover, Rachel Reeves is now a year closer to the target date which also helps – because forecasts get less certain deeper into the future.

But if there are ways of painting Reeves as a fiscal roundhead, from other perspectives she still looks a little cavalier. The margins she is aiming for are still slight by regular, pre-pandemic standards. Perhaps most troubling of all is that, stepping back from a particular fiscal target, the public finances look weaker over the next few years as a whole. Borrowing is higher than in the March forecast in every year until 2029-30. Debt, on all the measures, is up compared to March, and ends the forecast higher than it starts. This is largely because of those fiscal forecasts, which deteriorate more in the first few years than towards the end of the period. But the effect of Budget measures is also to loosen the purse strings and further increase borrowing for this year and the next. Feasible or not, the pain has been chalked in for 2028 and beyond. So in the end, we have neither Reeves the laughing cavalier nor the stern puritan chancellor, but rather Rachel the flawed Augustinian: “Lord, make me prudent – but not quite yet.”

Her plan for fiscal redemption is protracted and, in some ways, uncertain – after all, it is supposed to bite just as the next election moves into sight. Any hope of making it stick will depend on whether she has won the political breathing space to see it through. That is going to depend, as much on anything, on clearing her second hurdle – protecting families from the current squeeze.

Easing the cost of living squeeze

Gripping the cost of living is an obvious political priority, and with the knock-on benefit of helping the Bank of England cut rates to make mortgages cheaper, and thereby easing living costs further. One great motor of price rises over the last four years has been energy bills, so – as price rises continue – it is good that the Chancellor is acting to reduce them with a £130 discount from next year. This help is, though, set to be temporary. Half of the energy bill package comes from the Exchequer picking up some policy costs from bills, but this funding will only last for three years, meaning £55 is set to be added back onto electricity bills in 2029-30.

A freeze in rail-fares will be a relief to some households. As, indeed, will be yet another notionally temporary freeze in duties at the petrol pump. Here there is a plan finally to start phasing-out a supposedly ‘emergency’ cut, introduced in 2022 when prices were much higher, from next Autumn. It is probably wise to withhold judgment on whether that will actually happen, as opposed to a reversion to the endless fuel duty game of ‘pretend and cancel’ Putting all this together is forecast to shave 0.5 points off inflation in Spring 2026, a reduction that should give the Bank of England scope to bring forward one or more additional quarter-point cut on interest rates.

Arguably even more urgent is protecting children from hardship: abolishing the impoverishing two-child limit is as welcome as it is overdue, and should result in 450,000 fewer children living in poverty by 2029-30 than if it had been retained. This is the right priority within a welfare bill which is still set to be roughly flat as a share of GDP. Yes, there have been post-pandemic rises in some areas, notably pensions and working-age health and disability. And yes, paying for an ageing and ailing society is a serious challenge. What definitely is not right, however, is asking children in poverty to pick up the tab for the old and ill. The Government deserves credit for moving away from that.

Taxing smarter

One hurdle a Chancellor in need of revenue should always seek to clear is to tax smarter – by reducing, rather than increasing, distortions in the tax system. And when asking people to pay more, it is obviously important to be able to show that this will be done fairly.

Another three years of freezes for tax allowances did the most work in raising money at this Budget. After nine years of rises to the personal allowance in the 2010s, the eventual nine year freeze will still leave it over £1,300 higher in real terms than in 2010-11. But this is undoubtedly a measure that asks working people to pay more: a typical employee will face a £220 higher tax bill in 2030-31 as a result of the freeze extension. It is a somewhat less progressive way to raise personal taxes than a manifesto-breaking rise in Income Tax rates, which would have cost less for anyone earning under £35,000 a year. Be careful what you vote for.

Beyond that, there were welcome gestures towards the principles of smarter taxation, albeit in improvised ways. The new ‘mansion tax’ reasonably extracts a (pretty modest) extra contribution from an important form of wealth that has swelled in value for decades. And yet it arrives as an appendage to a discredited Council Tax which remains an untidied mess.

The 2 percentage point rise in Income Tax rates on landlords, shareholders and savers is an important step towards treating different forms of income equally. But National Insurance means that the basic distortion against employment and in favour of self-employment remains close to record highs. Capping the perks on pension contributions enjoyed by workers of some (but not all) firms makes sense, but further extends the fiscal bias in favour of the self-employed.

The verdict and the outlook for living standards

What the Budget lacked was a sense of strategy – and not only strategy in the sense that fiscal purists mean, who will always be disappointed by politicians who have to think about messy things like politics.

The deeper confusion relates to the very recent swerve regarding who should bear the pain of consolidation. A matter of months ago in Spring Statement, a big part of the Chancellor’s answer was disabled people on benefits, in plans that were in many ways regressive. This week, the same Chancellor was upfront in asking everyone to pay more, and the best-off to pay even more still. Across the Parliament as a whole, policy measures will have a progressive effect on incomes with the poorer half gaining £90 on average against losses of £1,000 for the top half.

And yet after all the swerving, it is hard to know where the Chancellor would look for further sacrifices if they should be needed. Unfortunately, the possibility of more tough choices is very real, in an economy in which unemployment has been rising and an early fall is not expected. The flipside of the miserable productivity which made the headlines yesterday is continuing stagnation in living standards, with Real Household Disposable Income set to grow more slowly over this Parliament than any other Parliament on record except one – the last. This is a context in which it is important to have a more consistent sense of priorities than the government has so far maintained.

Still, before we can get to the future, we need to get through the present – and the Budget certainly helped with that. The Chancellor squeaked over her first hurdle, ear-marking enough revenue to make her rules believable, but putting off the moment where she actually has to rake the money in. She skipped over the second hurdle, easing the immediate squeeze on households with her cost of living package. The third hurdle wobbled, with significant distortions in the tax system and those much-talked about ‘working people’ still paying more than others. But in the end she cleared it, by handing much of the bill to those who have got away lightly in the past.

Rachel Reeves is still standing. But one hurdle not yet cleared is boosting growth and improving the outlook for living standards. Only time will tell if she has done enough to make it over the finish line.