Rachel Reeves will have to account for a bigger-than-expected £20bn hit to the UK public finances in next month’s budget, increasing the likelihood that the chancellor will breach a key Labour manifesto pledge not to raise income tax.
The Treasury’s forecaster, the Office for Budget Responsibility (OBR), is preparing a steeper than anticipated cut to UK productivity for the next five years. The OBR plans to cut its trend productivity growth prediction by 0.3 percentage points after a downgrade of the UK’s economic momentum since the 2008 financial crash.
Reeves is understood to be furious that the OBR has chosen her second budget to downgrade the figure. Labour said in its election manifesto that it would not increase income tax, VAT or national insurance, but Reeves could say that the revisions by the OBR upend her calculations, forcing the government to renege on earlier commitments.
The estimated impact is based on calculations by the Institute for Fiscal Studies (IFS), which has said that each 0.1-percentage-point downgrade to productivity would increase public sector net borrowing by £7bn in 2029-30. That suggests that a 0.3-point reduction could result in a £21bn hit to the public finances.
Reeves, speaking at the Fortune Global Forum in Riyadh, said: “Our independent forecaster is likely to downgrade the forecast for productivity in the UK based not on anything this government has done, but on our past productivity numbers, which, to be honest, since the financial crisis and Brexit have been very poor, and that just shows how essential growth is.”
However, the final number could be offset by other factors including lower borrowing costs and faster-than-expected growth. Allan Monks, an economist at JP Morgan, said the productivity downgrade could reach almost £27bn, but a fall in debt financing costs or more people coming into the jobs market may help limit the damage. The OBR is due to present its outlook to the Treasury on Friday.
