The Institute for Fiscal Studies has warned that the budget will be a “work of fiction” unless the chancellor sets out how he intends to cover £35bn of spending pressures.
In its green budget report, published ahead of the chancellor’s statement to the Commons on 28 October, the thinktank said the inflation shock had damaged the public finances, leaving him to choose between topping up funding for existing spending plans or imposing deep real-terms cuts by the end of the decade.
The warning came against a febrile backdrop in the bond market, with the IFS saying that failing to address the issue at the budget risked giving the impression that Labour was setting unrealistic spending plans.
Helen Miller, director of the IFS, said: “Simply pencilling in implicit cuts that he has no intention of delivering would make the budget a work of fiction.”
Her remarks echoed criticism previously aimed at Jeremy Hunt, the former Conservative chancellor, who was accused by the then head of the Office for Budget Responsibility of setting unrealistic spending plans before the 2024 general election.
The IFS urged the chancellor to avoid a “steady as she goes” budget that put off decisions until next year’s spending review. “If John Healey sets out spending envelopes for public services that he would not be willing to live within, his plan for meeting the fiscal rules will not be credible,” it said.
The governor of the Bank of England, Andrew Bailey, said last week that fiscal policy “must be credible and be seen as such by financial markets”. A government source told the Times the following day: “Andrew Bailey needs to focus on doing his job.”
Miller said a Treasury assumption that “everything can be kicked forward” to next year’s spending review risked undermining the chancellor’s credibility. “We would be better served by a chancellor who hopes for the best, but plans for the worst, rather than sets out plans that either say, ‘I hope it’ll be fine and some money will come in’, or ‘I’ll get a plan in a year’s time’.”
Before the budget, attention has centred on the damage to the chancellor’s headroom against Labour’s main fiscal rule, which requires day-to-day public spending to be balanced with revenues in 2029-30.
Higher borrowing costs, driven by the sell-off in government debt linked to the war in the Middle East, are expected to erase a significant part of the £24bn buffer left by the former chancellor Rachel Reeves at the spring statement. Leading economists have predicted that market moves since the war began in February could remove roughly half of that headroom, adding to Treasury nerves about a market backlash.
The IFS said the increase in debt interest costs could add £10bn to borrowing in 2029-30, but that higher inflation boosting tax revenue would work in the exchequer’s favour, leaving headroom cut by only £4bn.
It nevertheless cautioned against concentrating on that buffer, because the inflation shock rippling from the Middle East would also hit the government’s plans for funding public services. Higher inflation erodes spending power, leaving the government to accept real-terms cuts, find efficiency savings, raise taxes or permit more borrowing.
Leaving spending totals unchanged at the budget would implicitly allow the quality or quantity of public services to fall, the IFS said. Covering the inflation shock and funding the pledge to raise defence spending to 3% of GDP by 2030 would require tax rises or benefit cuts of about £35bn.
“Choosing to stay the course with the inherited tax and spending plans would mean allowing inflation to blow departments’ spending plans off course,” Miller said. “It would be a choice to tolerate chunky cuts to the quantity or quality of some public services — cuts that would be larger if defence spending was increased within existing totals.”
She added that the chancellor would not need to set out detailed plans for the next spending review period at the budget, only overall spending envelopes he would be prepared to live within.
A Treasury spokesperson said: “The chancellor is fully focused on his priorities to boost business, help with the cost of living and support people in every postcode, underpinned by fiscal discipline and a commitment to meet the fiscal rules with a buffer against uncertainty. The Office for Budget Responsibility will publish its updated forecast alongside the budget in October and we will not comment on rumour, speculation or proposals about its contents ahead of then.”
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