Great expectations in hard times?

Previewing the big decisions for the Chancellor in the new Government’s first Budget

14 October 2024

Emily Fry

Cara Pacitti

James Smith

In this briefing note, we put the big decisions faced by Chancellor in the new Government’s pivotal first Budget into context, discussing the new – and old – spending pressures faced, how the economic outlook has changed, and what all means for the public finances.

Key findings

The Chancellor identified a departmental overspend by £22 billion this year. While some of this will prove temporary and part will be offset by tightening elsewhere – including cuts to Winter Fuel Payments – we estimate that around £19 billion of these spending pressures will continue until 2029-30.
There has, however, been good news on the economy with GDP and inflation stronger than expected. Despite this, a simple update of the OBR’s March forecast suggests that ‘headroom’ against getting debt falling will be wiped out by those higher spending pressures.

The Chancellor has been clear that there will be “no return to austerity”. Avoiding cuts to ‘unprotected’ departments such as Justice and the Home Office would require at least £21 billion of extra day-to-day public-service spending by 2029-30.

This is expected to be a growth-focused Budget that prioritises investing for the future. But, on current plans, public-sector investment is set to fall from 2.4 per cent to 1.7 per cent of GDP by the end of the forecast. Reversing these cuts would cost an additional £30 billion in annual capital spending in 2029-30.

The Government has said it will adopt a ‘current balance’ rule that requires plans to bring day-to-day spending into line with receipts at some point over the forecast. This means higher spending will need to be covered by increases in tax. We estimate that around £20 billion of tax rises will be needed to meet this rule.

The challenge of meeting these spending pressures is complicated by Labour’s promise not to raise key taxes like Income Tax or VAT. Potential targets for tax increases include Inheritance Tax and Capital Gains Tax. Reforms to these taxes could raise around £20 billion. Tax increases on this scale would be in line with the average imposed at Budgets following the past eight elections.

Increasing investment is likely to require a change in the definition debt used in the fiscal rules. Changing the definition of debt to include the Bank of England would increase the Chancellor’s headroom by around £15 billion. A more comprehensive approach could include introducing a rule based on public sector net worth, which explicitly recognises the assets created by higher investment.

Even if these changes are made, fiscal policy will remain tight, and the Chancellor faces the tough task of balancing higher taxes, increased borrowing, and maintaining public services – all while working to boost economic growth.

The Chancellor faces tough decisions about what to prioritise in the face of trade-offs between improving living standards, bolstering flagging public services, bringing down Government debt and boosting growth. How these are resolved will reveal much about the new Government’s economic policy for the Parliament ahead.

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