A make-or-break budget: inside the Treasury before Labour’s crucial day | Budget 2025

Every budget, more or less, can be described as a risky moment. Things can easily go badly wrong, as Gordon Brown discovered when he abolished the 10p tax rate in 2007, or George Osborne’s 2012 “all-round” budget was torn apart by pastries, and especially Kwasi Kwarteng, whose disastrous mini-budget in 2022 dragged the Conservatives towards election defeat.

Rachel Reeves seems to have come dangerously close to her previous budget shake-ups, and she hasn’t even made it happen yet.

Veterans of the Blair government who have watched the chancellor work behind the scenes say he has a calm, methodical approach; KitKat wrappers and pages of speech drafts are strewn across the floor of Room 11, a welcome sight compared to the chaos that surrounded Brown as he crafted his budgets.

But to the world outside, the lead-up to Labour’s difficult second budget appeared extremely chaotic. Numerous policies have been introduced, rejected, debated and set aside in the long run up to next Wednesday.

And Reeves’s carefully choreographed series of interviews and speeches, which laid out the bleak economic climate and paved the way for a manifesto-busting rate rise in income tax that horrified many Labor MPs, gave way last week to another policy U-turn.

The highly controversial plan, which marked the first increase in the key interest rate since 1975, has now been abandoned in favor of a menu of smaller revenue raisers, including an extension of the freeze on income tax thresholds that the chancellor said in last year’s budget speech would “hurt working people”.

While investors dumped government bonds last Friday on news of the end of income tax rises, Reeves’ allies, fearful it meant he was less committed to balancing the books, insisted his change of heart was a result of the pay rise leading to better-than-expected forecasts from the Office for Budget Responsibility (OBR).

However, some with knowledge of the process are skeptical of this explanation. “I guess they just changed their minds,” said one, noting that the basis for the OBR’s decision on the economy was known weeks in advance.

On the night the U-turn was leaked, a senior cabinet minister told the Guardian it was because politics had gone wrong. Despite angry denials from Treasury officials, supporters said they believed Reeves “bottled it.” This was another blow to the government’s already damaged reputation.

It wasn’t planned to turn out this way. Reeves and his team had hoped that by taking decisive action on November 26 to shore up public finances and increase the fiscal buffer against fiscal rules, they could win over skeptical bond markets and lower the cost of borrowing.

At the same time, a list of cost-of-living measures, possibly including reducing VAT on domestic fuel bills, would help combat inflation and pave the way for further rate cuts by the Bank of England. Ultimately, this will help bring back the feel-good factor and point to a more positive 2026 for the economy.

That’s still a possible economic outcome on which Reeves and his team are pinning their hopes. Jonathan Portes, a former government economist, said: “If consumers and markets think, ‘He’s made the best of a bad business and I personally won’t be hit as badly as some of the more exciting headlines suggest,’ you could get a bounce.”

But weeks of harrowing uncertainty may have made it harder to convince markets and skeptical voters that Reeves has the situation under control.

And if it increases its “earnings spread” from around £10bn to £15bn in its spring announcement, against the rules, this could fall short of market expectations and risk a swing in the market that day.

Unusually, it has been a very bumpy ride even before the budget has been announced. The Chancellor first heard of the OBR’s plan to cut productivity forecasts in June and decided to start preparing for the future.

“The alternative strategy would have been to say nothing, hold your nerve. But when the forecasts are announced in the budget they come down dramatically and market chaos ensues. This could completely destroy the economy,” a Treasury source said.

By the time of the Labor Party conference in September, Reeves was aware that a downgrade would leave a £21bn hole in his plans. Once again, his team faced the choice of whether to prepare the ground for the violation of the manifesto.

“Unless you’re taking people on a road trip, landing makes things more difficult,” one aide said. “If you drop any of these things out of the clear blue sky you will rightly be criticized.”

In media interviews, Reeves confirmed he was no longer sticking to his promise last year not to raise taxes, saying “the world has changed” due to conflicts, US tariffs and borrowing costs.

Labor MPs have begun to become uneasy due to speculation that Starmer, who is already at risk of a leadership challenge following tough local elections next May, may face an even earlier leadership challenge.

Liam Byrne, Labor chairman of the business and trade select committee and former Treasury secretary, says pre-budget uncertainty is not only politically damaging but also has an economic cost.

“We just started off for a week doing road trips up and down the country where there are hundreds of businesses, and there’s a really dark sense of pessimism there,” he said. “What paralyzes them, and that is paralysis, is tax uncertainty.”

Over the following weeks, ministers and officials weighed various options to close the fiscal gap, pay for U-turns, including on welfare, and increase Reeves’ share. They have made some plans for various tax increases, including raising the basic income tax rate.

At the same time, political pressure on the Chancellor was increasing. Labor deputy leader Lucy Powell spoke on behalf of worried MPs and party members in an interview days before the U-turn, saying there was “no doubt” the party should stick to its manifesto.

But former Conservative Party Chancellor Jeremy Hunt, who exchanges messages with Reeves on a semi-regular basis, believes he could have gone ahead with the plan if he had solid reasons.

“The manifesto promises are very important, of course, but the next election isn’t until 2029. If it turns out to be the right thing, then a lot of people will be prepared to forgive them,” Hunt said. “The concern is that any violations would raise taxes and slow growth.”

Simon Case, who was head of the civil service until a year ago, admits officials were concerned about whether Labor could stick to the promise it made before coming to power, but admitted they were not allowed to give formal advice during access talks.

“We were very concerned about the promises they made in Whitehall before the election not to raise taxes because we clearly knew the real state of the public finances they would face on arrival,” he told the Guardian.

Some in government, including senior figures at the Treasury, believe this budget shows more clearly than ever that the system itself is flawed. Case is among those who believe it needs to change. “We’re talking about a few billion here or there, which will be hugely important politically because it’s the difference between accepting the fact that the process is unsustainable and flouting the manifesto,” he said.

“Nobody’s really giving a big talk: if we’re going to change the UK economy dramatically, we need to talk about how we spend hundreds of billions.”

The former cabinet secretary believes Reeves’ problems run deeper. “Some of this has to do with the current political situation, of course, but there are other long-standing issues that seem to be getting more and more difficult.

“Our economic productivity is poor, despite the efforts of many governments to fix this. There is also huge pressure to spend on public services because they are not performing as we would like. Any budget for the next few years is going to be incredibly difficult.”

There are also questions about OBR. When Labor first came to power, the chancellor heaped praise on the observer, even legislating to ensure that it would no longer be possible to present a major financial event without forecasting, as Liz Truss did, with disastrous results.

But since putting watchdog and chair Richard Hughes on a pedestal, Reeves and his team find their relationship with him increasingly frustrating; This feeling is sometimes reflected in the public opinion.

He openly questioned the timing of the productivity decline, which Labor believed should have occurred earlier, and called for more credit to be given to Labor for its pro-growth policies.

In a bid to avoid the twice-annual speculation circus on taxes and spending, the OBR is expected to announce next spring’s forecast will only cover economic growth, not fiscal rules. A more radical proposal would be to cancel the spring forecast altogether, but Hughes has made clear he is against this option.

Treasury sources say Reeves’ budget strategy has remained unchanged since July, when he singled out his three priorities: cutting NHS waiting lists, paying off the national debt and covering living costs. They acknowledge that he knew at the time that there would be no return to austerity or more debt; This means the only way forward is tax increases.

“We are being honest with the public that this is a tax increase budget, but they want to know whether taxes will increase, what it will do for me, what they will get in return,” a Treasury source said. “But when lawmakers see this in its entirety, they will see that they have something to sell to the public.”

Many MPs are still waiting to be convinced. It is perhaps unsurprising that many see Starmer’s leadership hanging in the balance, already weakened after the extraordinary Downing Street briefing campaign to support him before the budget backfired spectacularly.

Former shadow chancellor John McDonnell said: “Labour MPs are desperate to avoid another disaster. We’ve made so many political mistakes. Everyone hopes we don’t have to go through this again in the budget, that we get through it as quickly as possible and survive.”

“There is such disappointment. We’ve been waiting for a Labor government for years. If voters don’t see that this is helping them, they’re not just going to withdraw their support from Labour, they’re going to be angry and that’s where Reform comes in.”

Hunt said: “It’s fair to say that the personal future of both the Prime Minister and the Chancellor depends on the success or failure of the budget. It was a combination of luck and poor judgment on the part of Rachel Reeves.”

Others fear that this budget will outweigh any downside for individual politicians, no matter how senior. “Yes, this budget will be critical to the intertwined fates of Keir Starmer and Rachel Reeves,” Case said.

“But this budget is even riskier than that because it raises the question of whether governments at the center can answer the fundamental questions that are holding the UK back. If they can’t, voters will look elsewhere. This is a really important moment.”