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Rachel Reeves was adamant. After announcing £40bn of higher taxes and a near-£70bn in extra public spending in her first Budget last October, the chancellor told a business audience she had drawn a line in the sand.
“I’m really clear, I’m not coming back with more borrowing or more taxes,” she told the CBI employers organisation last November, insisting the public finances were now on “a firm footing”.
Those words have not aged well, as Reeves confronts a summer of speculation that she will be forced to increase taxes or borrowing — or both — to stay within the claustrophobic confines of her fiscal rules.
Reeves won some comfort from the IMF on Tuesday, which said the chancellor’s fiscal strategy was “credible and growth-friendly”. But it also warned there were “significant risks” associated with delivering it, making extra tax rises or spending cuts necessary “if shocks arise”.
The IMF, which spends weeks talking to the Treasury before producing its annual “Article IV” health check on the British economy, suggested tweaking the UK’s fiscal framework to promote “policy stability” between Budgets.
Problems are piling up: borrowing costs are rising and the chancellor’s attempts to save money by cutting benefits have run into fierce opposition from the public and Labour MPs, whose tolerance for cuts appears to be exhausted.
Last week Sir Keir Starmer retreated on the government’s £1.5bn plan to restrict how many pensioners receive winter fuel payments. Now he is looking to cut the Conservative-era two-child benefit cap, at a cost of up to a further £3.5bn.
Add to that forecasts of sluggish medium-term growth, Donald Trump’s trade wars and a possible downgrade in the productivity forecasts by the Office for Budget Responsibility and Reeves’ difficulties become clear.
Some economists reckon Reeves’ flimsy £9.9bn headroom against her fiscal rules will be eviscerated, leaving her having to find billions of pounds to keep balancing the books.
“The [fiscal] rules are almost certainly going to be broken,” said Stephen Millard, interim director of the National Institute of Economic and Social Research. He added that getting the public finances back on track was a problem for the chancellor given her commitment not to raise any of the ‘big three’ taxes — income tax, employee national insurance and value added tax.
“If the chancellor wants to match the spending that she has currently planned . . . then I’d be inclined to increase at least the higher rate of income tax, if not the basic rate,” he added.
“It’s pretty inevitable that she will have to raise taxes, because what I can’t see is cuts in spending.”
Isabel Stockton, senior research economist at the Institute for Fiscal Studies, said the government could still get “lucky” but that it “certainly seems likely that something else would have to give” to accommodate permanent increases to public spending, such as scrapping the two-child benefit cap.
“There are lots of options, but it’s always difficult to raise substantive amounts in a way that’s predictable without touching the big three taxes,” they added.
Reeves’ allies insist that the chancellor will not use her next Autumn Budget to break free from her fiscal straitjacket by junking her fiscal rules. “They are non-negotiable,” said one. Reeves has called them “iron clad”.
But the IMF has suggested that the OBR in future only conduct a single annual assessment of the fiscal rules — at the time of the Budget — rather than twice a year.
The fund wants to stop the constant public speculation on fiscal “headroom” and likely tax increases that it thinks is responsible for poor decisions taken in government. IMF officials note that no other country is so obsessed with small movements in its public finances.
The Treasury would love to see this happen, according to government officials, to avoid the kind of chaos that accompanied Reeves’ spring statement in March, when she was forced to make £14bn of last minute savings to stay within her fiscal rules after the OBR’s forecasts worsened.
James Smith, research director at the Resolution Foundation, said the problem was not just having a particular target, but also the “very historically low level” of headroom, which meant any shock required the government to tighten policy.
The assessment of whether the government is meeting its fiscal rules is currently a mandatory duty of the OBR every time it produces a forecast under a 2011 Act of Parliament. This would need to change, although the government tweaked the OBR’s duties in 2024 with supplementary legislation.
While that might help the chancellor avoid yet more tax rises in her spring statement of 2026, it does nothing to help her off the hook when it comes to this year’s Budget, which is looking more problematic by the day.
