Chancellor’s modest Budget giveaways set up fiscal pain for after election

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Jeremy Hunt’s overriding message in his big pre-election Budget was that hard economic choices are paying off in the form of tumbling inflation, improved growth and the promise of more cuts to personal taxes. 

Left unsaid, however, was the brutal fiscal reckoning that his modestly-sized spring Budget leaves looming for whoever is chancellor after the general election expected later this year. 

Hunt on Wednesday delivered a headline-grabbing package of tax reductions worth £14bn in the 2024-25 fiscal year as he made the most of a diminished margin of budgetary wiggle-room going into the set-piece speech.

The biggest measure was a further 2p cut to national insurance on top of reductions announced in November. 

But he had less to say when it came to the outlook for public spending.

The chancellor pledged to unleash a productivity drive in government and said he would be sticking with plans for a modest 1 per cent real-terms increase in overall departmental spending from 2025-26 onwards.

That still left many branches of government facing harsh retrenchment after the election given bigger spending boosts promised to favoured areas like the NHS. There is, said Paul Dales of Capital Economics, an “implausibly big hole” in the UK’s public spending plans. 

“A big tightening in fiscal policy is still on the cards for after the election and that will probably require new tax hikes,” he said.

Wednesday’s announcements amounted to a fairly small budgetary giveaway by recent standards. Fiscal policy will be loosened by 0.3 per cent of gross domestic product per year on average over the next half decade, according to the Office for Budget Responsibility, only half the size seen in last year’s Budget and Autumn Statement. 

This was partly because forecasts from the OBR left the chancellor with only a slender amount of “headroom” against his main fiscal rule, which requires the ratio of public debt to GDP to be falling year-on-year in five years’ time.

This headroom stood at just £13bn after the November Autumn Statement. As Hunt weighed his tax and spend decisions going into the Budget, it had shrunk to £12.2bn, giving the chancellor precious little room for manoeuvre.

The cost of national insurance cuts will partly be offset by a grab-bag of revenue-raising measures, including the abolition of the non-domicile tax status, most which only kick in after the election. 

But the net effect is Budget headroom that has shrunk further to £8.9bn, leaving the UK’s “fiscal cupboard looking bare”, according to Allan Monks of JPMorgan. That margin is well shy of the average of £26.1bn chancellors have set aside against their varying fiscal rules since 2010, and amounts to a mere 0.3 per cent of UK GDP. 

Given the normal risks of forecasts going awry, there is only a 54 per cent chance of the government hitting its fiscal target, the watchdog calculated. 

Yet Hunt is likely to remain under pressure from his Tory MPs to do yet more on tax, given the Conservatives’ persistent polling deficit and the mounting tax burden.

Wednesday’s tax measures, coupled with last autumn’s reductions to national insurance, only partially offset the rising tax take in the coming years.

Tax as a share of GDP will hit 37.1 per cent by 2028-29, 4 per cent of GDP higher than the pre-pandemic level, according to the OBR.

The debt burden, too, is significant. While the OBR forecasts show public debt falling as a share of GDP in 2028-29, the final year of the forecast, it is only an incremental drop from 93.2 per cent to 92.9 per cent. That leaves the UK’s public finance in a precarious state. 

Recent history, the OBR explained, has highlighted how difficult it has proven for governments to fulfil pledges to get public borrowing under control. Since 2014, fiscal policy has been tightened in only two of 20 fiscal events, the watchdog said. In contrast, it tightened persistently in 2010-14, under former Tory chancellor George Osborne.

Hunt struck an austere note in his speech, declaring there was “nothing compassionate about running out of money”. He added: “With the pandemic behind us, we must once again be responsible and build up our resilience to future shocks.”

But analysts said the chancellor had put precious little flesh on the bone when it came to explaining how that resilience would be built up.

Hunt stuck with previous plans to increase day-to-day departmental spending by 1 per cent a year in real terms after the election, but this implied flat per-person spending over the next five years because of a growing population. 

Given the need to shelter priority areas including health and defence, unprotected departments will face real terms cuts of 2.3 per cent per year, said the OBR. 

The chancellor insisted that a public sector productivity drive could ensure it was possible to live with “more constrained spending growth” without cutting public services. A 5 per cent increase in public sector productivity would be the equivalent of around £20bn in extra funding, he said. 

But the Treasury remains a long way from persuading the OBR to put those kinds of savings in its forecasts. Hunt’s ambition to improve public sector efficiency was the right one, said Paul Johnson of the Institute for Fiscal Studies, but “delivering on such plans and securing cash savings will be very tough indeed”. 

He added: “Whoever is chancellor at the time of the next spending review . . . might wish they’d chosen a different line of work.”