Income tax rise only way to plug new £20bn Budget black hole, economists warn Reeves
The only way Rachel Reeves can balance her budget is to raise income tax or cut public spending, top economists have warned, after bad news on a key economic indicator left her facing an extra £20bn black hole.
The Chancellor was facing a tough budget on 26 November, with a fiscal deficit of between £30bn and £40bn, but was dealt a further blow by the Office for Budget Responsibility’s (OBR) decision to cut its productivity forecast. Independent – which means it needs to find another £20bn.
Now the respected Institute for Fiscal Studies (IFS) has warned that trying to balance the books by raising a slew of smaller taxes, rather than breaking Labour’s manifesto promise not to raise income tax, would “cause an unnecessary amount of economic damage”.
It comes after the Chancellor said he wanted to increase the Treasury’s so-called fiscal share above the current £10bn to cope with economic shocks, after the Treasury failed to follow through on last year’s budget due to Donald Trump’s tariffs and the impact of ongoing wars in Ukraine and the Middle East.
IFS senior researcher Isaac Delestre said: “It is possible to raise tens of billions of dollars without breaking Labor’s manifesto promise not to increase workers’ national insurance contributions, VAT or income tax rates. But this increases the risk of taxes being raised in ways that would cause unnecessary amounts of economic damage or add unnecessary complexity to the system.”
He added: “Of course there is always the option of reducing spending rather than increasing tax.”
His comments come as Ms Reeves is holding discussions on a range of possible new taxes, with her options including a 1 per cent annual mansion tax on properties worth more than £2 million, a gambling tax, a bank profits tax, capital gains reforms for those selling their main property and an end to tax relief on pensions.
But the man he hired as an economic guru before Labor came to power warned the chancellor that he needed to take a bolder approach.
Former Treasury secretary Jim O’Neill, a former chairman of Goldman Sachs, called on Ms Reeves to promote “proper reform” and said she should “get rid of the triple lock guarantee on state pension annual growth, introduce real estate tax reform and start getting serious about welfare reform”.
Professor Stephen Millard, deputy director for macroeconomic modeling and forecasting at the National Institute of Economic and Social Research (NIESR), acknowledged Ms Reeves would now have to go for one of the big taxes – possibly income tax – to fill the gap.
he said Independent: “Trying to fill the gap without changing any of the major taxes would mean lots of small changes and make the tax system even more complex and less efficient.”
The chancellor has already confirmed he will not borrow more to balance the books, but he is under increasing pressure from within the Labor Party to increase rather than cut spending, with former prime minister Gordon Brown leading the push to end the two-child benefit cap next week.
He and other ministers have repeatedly avoided citing Labour’s election manifesto pledge not to increase income tax, VAT or workers’ national insurance contributions. This led to speculation that he was planning to increase income tax. Independent This suggests there is serious debate over the top rate of 45p, and there is a possibility it could be increased or the threshold at which people must start paying could be lowered.
While some have argued that Ms Reeves should make a fresh attempt to bring down the spiraling benefits bill, further benefits reform and spending cuts appear unlikely after Labor backtracked at the beginning of the summer.
It comes after Labor members elected Lucy Powell as deputy leader of a left-wing party that promises a “fairer” tax system and opposes spending cuts. He was previously sacked as a cabinet minister for opposing £5bn welfare cuts planned by Sir Keir Starmer.
Meanwhile, when Ms Reeves received news of the OBR’s latest downgrade while visiting Saudi Arabia this morning, she doubled down on her claim that Brexit was to blame for the country’s economic woes.
“Of course there are great benefits to rebuilding some of these relations, but at the same time inflation is very high,” he told the Future Investment Initiative in Riyadh. “One of the reasons is that trade with our closest neighbors and trading partners costs too much.”
On Monday, Ms Reeves signaled tax increases were being considered ahead of the Budget as the government needed to ensure there was “sufficient headroom” in its spending plans and its fiscal rules were met.
“The basis of economic growth is stability and I will not break the fiscal rules we have set,” he said.
Meanwhile, the chancellor has announced a £6.4bn two-way trade and investment deal with Saudi Arabia, hoping investment in the UK will help the economy as well as his own fortune. The new package includes £5bn of export finance, which will provide a major boost to manufacturing and jobs in Britain, as well as multimillion-pound investment deals with Aberdeen Investcorp, Barclays, HSBC and UK artificial intelligence giant Quantexa.
He said: “The commitments announced today will increase job opportunities and create thousands of jobs at home – key components to unlocking economic growth and building an economy that works for and rewards working people.”
