John Healey faces a potential £35bn shortfall to meet spending pledges and defence targets due to rising inflation, according to the Institute for Fiscal Studies. The IFS warns that the Chancellor must choose between tax increases, benefit reductions, or public spending cuts to address these pressures. This fiscal challenge arrives as global conflicts drive up energy prices and government borrowing costs.
Chancellor John Healey is facing a potential £35bn shortfall to meet his spending pledges and defence targets, according to the Institute for Fiscal Studies. The IFS has warned that the upcoming Budget must address these significant pressures to remain viable. Failing to resolve the gap could result in the Budget becoming a 'work of fiction', said Helen Miller, director of the IFS.
The IFS suggests that if the government intends to reach its target of 3% defence spending as a percentage of national income by 2030, a multi-billion pound top-up is necessary. This is required alongside plans to increase health spending without reducing the budgets of other departments. Without such funding, meeting these commitments will be difficult.
The organisation has noted that the chancellor does not have the option of a 'steady-as-she-goes' Budget, said Helen Miller, director of the IFS. The Treasury has declined to comment on the specific findings of the IFS. However, a spokesperson stated that the Chancellor is focused on fiscal discipline and meeting the government's fiscal rules.
Higher inflation is currently eroding the value of departmental cash budgets, according to the IFS. This economic pressure is being driven by ongoing conflicts in the Middle East and Europe. The IFS noted that the US-Israel war against Iran and the invasion of Ukraine by Russia have caused global energy prices to rise.
These international conflicts are contributing to increased mortgage costs and higher fuel prices in the UK. The IFS estimated that government borrowing costs could increase by £10bn in 2029-30 due to inflation and market turbulence. Such volatility creates a difficult environment for managing long-term public finances.
The government's current fiscal rules state that borrowing will only be used for investment projects by the 2029-30 financial year. Additionally, the rules require that debt is reduced as a percentage of GDP. These constraints are being tested by the rising costs associated with global instability and inflation.
The IFS believes the government will still meet its fiscal rules, but expects a smaller headroom buffer of approximately £20bn. This is a reduction from the £24bn buffer predicted by the Office for Budget Responsibility at the time of the Spring Statement. The IFS also noted that the buffer left by former chancellor Rachel Reeves at the spring statement was £24bn.
A potential £4bn reduction in headroom is expected after accounting for higher tax revenues generated by inflation, according to the IFS. To avoid cuts to departments, the IFS suggested a combined top-up of roughly £25bn might be required for investment and day-to-day spending in 2030–31. This highlights the scale of the financial decisions ahead.
It remains unclear whether the official forecast from the Office for Budget Responsibility will reach a different conclusion than the IFS. The upcoming Budget will provide more clarity on the government's financial position. The OBR is scheduled to publish an updated forecast alongside the Budget in October.
Shadow chancellor Andrew Griffith claimed that the Labour party has already increased taxes by £66 billion during its first two budgets. This criticism comes as the government faces pressure to honour manifesto pledges not to raise taxes on working people. Specifically, the party ruled out increases to VAT, income tax, or National Insurance.
Green Party leader Zack Polanski has challenged the government to take action regarding the cost of living. He suggested that costs should be moved off energy bills, noting that many families may see an increase in bills of £300 in January. These concerns reflect the impact of economic pressures on households.
The Budget is scheduled to take place on 28 October. This will determine whether the Chancellor chooses to implement tax rises, cut benefits, or reduce public spending. The IMF annual meeting is also taking place this week.
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