State of Play #19: Going All In
Rachel Reeves makes her mark as Chancellor ushering in a new leftwards tilt in our governing economics
Budgets are always a mix of economic ideology and necessity, and Rachel Reeves’s first is no exception. Within constrained circumstances Reeves has crafted “one of the largest fiscal loosenings of any fiscal event in recent decades” according to the Office of Budget Responsibility (OBR), George Osborne’s brainchild on measuring (and possibly limiting) government expenditure.
With the highest tax take ever, the first political nationalisations in fifty years and the return of class politics, is it fair to say this is the most left-wing proposition since the 1970s? Quite simply, yes. If anyone thought Keir Starmer would reproduce the New Labour playbook, this budget, along with an emerging left-wing strategy, has confirmed the opposite. After a tricky few months Reeves has planted the Labour flag firmly in the ground. The trick now is to keep it standing up.
Need and Desire
On one level this budget is a significant shift in our governing political-economic brain (possibly the largest since 1979). The previous strategy of government growth and spending went like this: rather than making tough tax and spend decisions (where some people lose out) we will grow the pie and redistribute the proceeds from said growth into increased government spending or tax cuts. This was Cakist economics – having our growth and eating it.
This model had stopped working when we ceased to grow sufficiently (roughly since the 2008 crash). While 2010s austerity made some tricky distributional choices, its deficit elimination always ‘extended’ into future budgets, while our economic model remained unimaginative – successive governments were too fragile or too flawed to truly reform it. The fact that Reeves is making some difficult upfront choices, rather than completely fudging spreadsheets or relying on magic money trees from the City, is something. But the real shame is both parties, cowered by the vitriolic and short-termist media debate on tax, shied away from this in the election.
However, politics aside, the practical necessity of this budget was to avoid austerity 2.0. The Conservatives left the economy in ill health, but also set a trap within departmental finances. Instead of leaving the departments with cost plans for the future, Jeremy Hunt allowed their budgets to fall after 2024 (by around 1% of GDP) – essentially building in an austerity trap for a future Labour government, who would be forced to raise taxes to overcome the planned cuts. Reeves’s budget needs required significant funding to prevent austerity, while creating enough room for Labour’s desires to rejuvenate the state.
Therefore, unsurprisingly, tax as a political tool is back. The largest increase rested on employer's National Insurance (NI), raising possibly £25bn. While designed to hit business it will eventually hit workers to some extent (the OBR currently thinks about 60% in the long run) – though the degree this plays out is still up for debate. Regardless, it has created a political problem – and warrants further reform to avoid hitting workers over the next five years (something I’d expect the Reeves is eyeing in a ‘giveaway’ budget pre-2029 election). The other revenue raises include Income Tax and NI freezes (fiscal drag), VAT on private schools, pension pots and land included in inheritance tax (for the first time), scrapping non-dom tax avoidance, capital Gains tax increases (lower 10-> 18%, 20->24% higher), private equity investors tax increases and a 5% stamp duty surcharge increase on second homes. In total this will raise £38bn.
While a more political vision for tax is back, the more radical part of this budget is the new borrowing rules, defined now as public sector net financial liabilities (PSNFL). Now don’t look away because it is boring spreadsheet time – trust me it is very significant as it completely determines what the government can borrow. This shift has unlocked a vast amount more borrowing, a significant £32bn this year. To put it bluntly, this is the formation of a new governing-market contract – the give and take between acceptable accounting and over-extension. It is pivotal with rising GILT yields (government borrowing rates) in response to the budget Reeves maintains a steady balance – otherwise the budget could unwind like Truss’s.
As this chart from George Dibb illustrates, Starmer is not only outdoing the Labour manifesto (a political risk that may come back to hurt) but is already set to become the highest investing prime minister since Harold Wilson in the mid 1970s. Much of the money promised in the budget will be churned into repairing the public and social fabric of the country left in a sorry state – a key part of the £13bn+ increase in day-to-day funding of the NHS. To some degree this will allow Labour to deliver improved public services by 2029 – whether they achieve this is a different question.
This budget must be both taken as an ideological step leftwards economically, but also a step that seems partly exaggerated due to the Conservatives refusal to fund departments in the long term. Labour still has the odd budget trick here and there (2027-8 budgets partly relying on growth), but this is inevitable and at least matched with large, realistic revenue raisers (i.e one of the ‘main three’ taxes of VAT, NI and IT). British political discourse was stuck with continually extending expectations for well-run European public services but pretending you can fund this with low US-style taxes. This budget has gone some way to breaking this fallacy that has plagued our discourse for decades, and for that it must be commended.
What The Wonks Say
Due to recent economic instability, and its ostracisation in Truss’s mini-budget, the OBR is dictating the narrative around the budget more so than ever. It's thus important to take note of their initial evaluation which is certainly mixed. Only a 0.5% annual growth of real household disposable income, and real GDP growth rising to 2% in 2025 before tailing off to the mid 1s by the end of the decade is seriously underwhelming. But there are several caveats that must be taken into account.
The first obvious one is that the budget has announced billions in new capital spending – linked partly to Labour’s new national strategy on capital spending, particularly through its nationalised energy company. By borrowing heavily to begin and investing early, Labour are making a calculated risk that these investments will bear fruit by the end of their term, and also in a possible second term. The creation of 5-year capital spending budgets is certainly a step in this direction of structurally shifting our economic brain towards investment. But the OBR is utterly unconvinced these investments will shift the dial. If Labour invests well expect this to change, especially if large amounts of private investment is unlocked.
One of the most important OBR predictions is that interest rates will remain at 3.5% for the rest of this decade. However only part of this is because of the budget – around a 0.25 bump. While this is an understandable bet to make, especially with an overly-cautious Bank of England and worries of credit over-extansion, I find it puzzling and economically risky if, say, the economy slows as much as the OBR itself is predicting to see the BoE keep interest rates so high. Many in the City, whether Goldman or Barclays, don’t see this as an eventuality in their forecasts. In short, this number could definitely change with big ramifications for the economy and Labour’s wiggle room.
The wider question the OBR report triggers is that economics is a social-political exercise as much as a supposedly ‘objective’ art. While everyone in politics, and the market, are thankful for the OBR’s work there are many underlying assumptions in its predictions that are just that – assumptions. If the economic consensus and model begins to shift, as Labour is attempting to do with its new growth drivers, these assumptions will need to change. Intriguingly, the macro-positive view is presented not by UK institutions but by the IMF, hardly Labour’s historical ally, who have a much better outlook on UK growth.
The same can be said for the Institute for Fiscal Studies (IFS) which offers brilliant but categorical analysis. If you read certain parts of their analysis, they think the UK is doomed to low growth, Reeves has fiddled the numbers and that several of the tax raising elements are inefficient (though Paul Johnson is slightly fairer in The Times). This may be somewhat correct, but it's at least fair to say that it is lacking political creativity. Like the hundreds of economists and commentators who rallied against Margaret Thatcher’s early budgets, the economic commentary powerhouses of Westminster are lukewarm at best – especially to new Chancellors. But this is the IFS or the OBR’s job – largely impartial, hard numbers-based analysis. They will rarely, if ever, take anything the Treasury produces in good faith without significant evidence saying otherwise. It’s thus incumbent on Labour not to complain, but to force them to change their tune through successful economic delivery.
Lucky to have it
For a budget that Labour never expected to have, it has granted them an enormous opportunity to spend and invest in the first term of Starmer’s governing project. The dose of realism that Reeves has brought to our tax and spend debate is encouraging – one can only hope that as the media atmosphere adjusts to a left-wing government we can have a more adult debate about tax and spend at the next election. Whether Labour efficiently invests over the next year or so will likely determine how successful Starmer’s premiership will be. The opportunity and risk is enormous – and maybe, just maybe, that's what we need in our politics – a dose of reality and a dose of innovative risk to break an outdated economic model.
Tom Egerton is a political writer and strategist, his new book The Conservative Effect, co-edited with Anthony Seldon and published by Cambridge is OUT NOW, you can order it here: with Cambridge, Waterstones or Amazon. Follow Tom on X / Twitter here.