The weekend just gone has seen more leaks about the UK November Budget and we are seeing rather a change of tack.
Chancellor Rachel Reeves is ratcheting up her plans for tax rises and spending cuts in next month’s Budget in order to create billions of pounds of extra fiscal “headroom” for the Treasury against future economic shocks. ( Financial Times)
As you can see Chancellor Rachel Reeves is finally trying to send a message that bond markets will like. In a sense it is traditional politics as shown below.
She believes that making painful decisions this autumn could prevent her from having to come back again with more tax rises later in this parliament, according to her allies. ( FT)
Although in purist terms she should have done that in last October’s Budget but in an issue I shall return to she mat have thought she did. The argument is to kitchen sink tax rises early in a Parliamentary term in the hope that the voters will have begun to forget that by the next General Election. Let us give her the benefit of the doubt continuing the Financial Times piece.
But the decision could mean political pain for Reeves, given that she had promised that last year’s Budget — which raised £40bn in taxes — was a one-off.
Things start to get a lot more awkward here and let me add in something that the Financial Times has either forgotten or omitted. Here is what I posted on October 31st last year.
That leads into this issue because every a cursory grasp of maths shows the spending plans as being larger than the tax raising.
leaving a further £35bn to be funded through higher borrowing. ( in 2026-27)
So there always was extra borrowing as well and the impact on the public finances was going to be exacerbated by this.
As you can see this is both contractionary ( fewer jobs) and inflationary.
I was referring to the rise in employer’s National Insurance which we now know has had exactly that impact. So the impact of the Budget last October was predictable whatever the political rhetoric. But there was more.
The Public Finances were supposedly fixed
If we go back to the Budget speech Chancellor Rachel Reeves told us this.
This government was given a mandate.
To restore stability to our economy…
To achieve that she told us that she had arrived just in time.
Let me begin with the public finances.
In July, I exposed a £22bn black hole
The Treasury’s reserve, set aside for genuine emergencies…
… spent three times over…
… just three months into the financial year.
But don’t you worry about a thing.
That is why today, I am restoring stability to our public finances…
… and rebuilding our public services.
We would be able to move forwards with confidence.
Taken together with our stability rule…
…these fiscal rules will ensure that our public finances are on a firm footing…
… while enabling us to invest prudently alongside business.
Also if we switch to the promise of economic growth the centre piece was this.
We committed in our manifesto to build 1.5 million homes over the course of this parliament…
… and my Right Honourable Friend the Deputy Prime Minister is driving that work forward across government.
According to Full Fact that is not happening.
However estimates published so far suggest the government needs to pick up the pace of building to hit its target in the current parliament.
What about now?
The Financial Times puts it like this.
Analysts widely expect Reeves to announce big tax rises in the Budget as a productivity downgrade from the Office for Budget Responsibility opens up a fresh hole in the public finances.
There are all sorts of issues raised here by what we have looked at so far. We have struggling economic growth and public spending which frankly this government is unable to get a grip on.Here is Housing Minister Steve Reed from last week.
Homelessness is a moral stain on our society. It doubled under the Conservatives. Labour is investing £1bn to give homeless people a roof over their heads.
This is something I would like action on as in my part of South London the issue of people sleeping literally on the streets is back. The problem is that we keep seeing spending announcements. The U-Turns on the Winter Fuel Allowance and cuts to welfare spending reinforce that theme. In fact there is an additional issue as the cuts to welfare spending were merely a reduction in the growth rate rather than an actual reduction. I have pointed out frequently that our political class have not adjusted from when the Bank of England buying made out debt nearly free and act as if it was not much more expensive.
The Office for Budget Responsibility
For newer readers I have long held the view that the first rule of OBR Club is that the OBR is always wrong. It is amazing how often that has turned out to be true as occasionally you might think they would get something right by chance. But Chancellor Rachel Reeves promoted them and put them centre stage. She is presently U-Turning on that but let me show you why this always was flawed via the economics. Here is there March forecast.
So, over the past 10 years, we have lowered our medium-term productivity growth assumption from around 2.2 per cent to 1¼ per cent.
Another victory for the first rule of OBR Club. But there are two really important factors in play. Firstly how a mostly unheralded number is an important factor. Secondly there has never been any evidence that the OBR has any clue about this or where it is going. Part of this is that it is not easy and secondly the people appointed to it have track records which show they have no idea and yes you did read that correctly.
The problem in fact gets worse as we look deeper.
In an upside scenario, trend productivity growth averages 1.2 per cent a year from 2025 to 2029, 0.3 percentage points higher than in the central forecast.
I would love to tell you that is true but there is little to justify it and sadly reasons ( energy policy for one) to doubt it.
In a downside scenario, trend productivity growth remains at 0.3 per cent a year throughout the forecast. Under this scenario, the level of productivity in 2029 is 3.2 per cent lower than the central forecast.
If we stay with the OBR 2.2% has now become 0.3% which would be funny if it were not so serious a matter. But that is like a bomb to the public finances. Or to put it into words the Chancellor will understand it is a Black Hole.
They estimate Reeves will be confronted with a hole of £20bn to £30bn because of the productivity downgrade by the UK fiscal watchdog. ( FT)
This really opens a can of worms because these people are clueless and I actually think their downgrade might be hopeful as they have been so consistently wrong, But the Chancellor is in a hole after so publicly backing them.
As a former economist at the Bank of England, I know what it means to respect our economic institutions……..Finally, I want to thank Richard Hughes and his team at the Office for Budget Responsibility for their work in preparing today’s economic and fiscal outlook.
She wont be thanking them in private.
Let me add in another factor which is that UK productivity is calculated by the Office for National Statistics which is in disarray. In particular its labour market figures have been affected by the collapse in responses to its Labour Force Survey. Thus if there ever was a time to rely on a derivative from that survey this is not it. Let’s see if anyone else points that out….
Comment
As you can see this is quite a tangled web to say the least. Let me now switch back to the UK bond market when even the Financial Times has stopped trying to deny that the October Budget raised UK bond yields.
Yields on 10-year UK government gilts have risen from 4.2 per cent to 4.7 per cent since Labour won the 2024 general election.
The official denial is a lie wrapped up in a misleading truth.
However officials insisted this was not unique to the UK and that gilt yields have drifted upwards in other western nations over the past 15 months.
It looks a lie from their own kite flying as they are trying to see what a promise of boosting the public finances would have on UK bond yields. So far not much if anything. That may be because they are singing along with Elvis.
A little less conversation, a little more action please
All this aggravation ain’t satisfactioning me
A little more bite and a little less bark
A little less fight and a little more spark
Close your mouth and open up your heart and baby satisfy me
Satisfy me baby.
As to the official denial yes other bond yields have risen but the UK’s have risen by more. In practical terms our ten-year yield which is usually below that of the US is some 0.6% higher.
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