Kwasi Kwarteng will need to find £60bn of savings by 2026 to fill the gap left by unfunded tax cuts and extra borrowing costs caused by a panicked reaction in international money markets to the chancellor’s ‘mini-budget’ , according to the Institute of Fiscal Studies.
The UK will also struggle to meet the chancellor’s 2.5% growth target, with investment bank Citigroup’s economic forecasts used by the IFS to underpin its analysis showing the UK will struggle to grow more of 0.8% on average over the next five years.
That slow growth rate, thanks to a toxic cocktail of a global economic slowdown, the UK’s post-Brexit weakness in its trade balance and the fallout from the mini-budget, would be just under half the rate of growth predicted by the Office of Budget Responsibility in March. .
UK growth
The £45bn cost of the mini-budget will wipe out any financial space left to the chancellor by his predecessor, increasing Britain’s debt as a share of national income for at least the next five years.
IFS director Paul Johnson said that while it was “technically possible” for Kwarteng to balance the books through spending cuts, he warned that public sector spending had already taken a big hit over the last decade and that “there wasn’t much fat left”. cut down”.
In 2026, the government is likely to still be borrowing £100bn a year when previous forecasts showed it falling to close to £30bn, the IFS said.
Part of the rise in borrowing is explained by the energy price cap ministers agreed to keep the average household bill at £2,500 a year.
The IFS said the cost of the package was likely to be less than the £150bn expected by the Treasury, around £114bn, although it would still add to the barrage of unfunded proposals submitted to boost the growing.
UK government spending
Kwarteng and Liz Truss have argued that their policies of tax cuts and deregulation will improve the business environment and increase profits, raising tax revenues to pay for state services.
However, the IFS said government plans to inject vigor into the UK economy over the next five years to pay for increased spending were likely to have only a limited effect, leaving ministers to make major cuts in public services and keep the reins. on social benefits.
The rector has announced a reduction of 1 p in the basic rate of personal income tax from next April and a reduction in national insurance contributions by 1.25%. He also plans to freeze corporation tax at 19%, at an estimated cost of £19bn compared to the previous plan to raise the rate to 25%.
Johnson said all the options open to Kwarteng were unpalatable as they either increased the government deficit or, to avoid it, involved cuts to public spending or broke manifesto commitments.
UK spending on debt interest
In one scenario, he said Kwarteng could keep his tax cuts if he indexed working-age benefits to earnings rather than inflation, reducing the rise to 5% from 10%, to save £13bn . A cut in public investment by a third to 2% would save £14bn, while a return to austerity in most Whitehall departments, except health and defence, could save £35bn.
Johnson said the scenario also only protected the NHS and defense budgets from inflation when the health sector was likely to need even more money to cope with higher demand and the Prime Minister wanted to increase defense spending 2% of GDP to 3%.
“Uncertainties about the trajectory of the economy over the next few years make public finance forecasts very difficult. We project borrowing of £100bn a year in the medium term, but that could be off by tens of billions in either direction,” he said.
“A credible fiscal plan will recognize this uncertainty, but cannot ignore the fact that, with a reasonable central forecast, debt is expected to continue to rise over the medium term,” he added.
Local authority chiefs reacted angrily to the prospect of further cuts to municipal budgets.
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Tory councilor James Jamieson, chairman of the Local Government Association, said councils had implemented cuts worth £15bn between 2010 and 2020.
“Given the funding gaps they are seeing, councils will have no choice but to implement significant cuts to services, including those for the most vulnerable in our societies,” he said.
The IFS report said the mini-budget caused a seismic shock to the outlook for public finances, leaving them deeper in the red.
“This is because the permanent tax cuts were bigger than expected,” and because expectations for Bank of England interest rates have soared to almost 6%, which has brought mortgage rates close to 8%.
Most economists have warned ministers that their plans to lift the economy are coming at the wrong time, with inflation hovering around 10% and unemployment at a 40-year low.
UK benefits and pensions
Delivering extra funds to households through tax cuts is likely to push up inflation, adding pressure on the central bank to raise interest rates even more than currently expected.
The OBR is the Treasury’s independent forecaster and will provide estimates of economic growth and the impact of the Budget on public finances when the Chancellor publishes his Autumn Statement on 31 October.
Citigroup said the weaker outlook could temper the Bank of England’s appetite to raise interest rates next year and cap rates at a maximum of 4.5%, rather than the 6% that the investors are currently waiting.
Benjamin Nabarro, the Bank of Britain’s chief economist, said the devaluation of the pound towards parity with the dollar would previously have made exports cheaper, boosting output and productivity and giving the government a quick exit from the economic stagnation.
He said the negative impact of Brexit and a lack of skilled workers meant the industry would struggle to benefit from a weaker currency, meaning stagnation was likely to persist.
“The medium-term investment outlook remains surprisingly weak. Aggressive monetary tightening [by the Bank of England] suggests that any significant recovery is likely to be pushed towards 2025,” he said.