OBR productivity forecast may add £20bn to Budget hole

The government faces a larger-than-expected gap in public finances as it prepares for next month’s budget.

A downgrade by the government’s official forecaster on the UK’s productivity performance could leave the chancellor facing a £20bn gap in meeting tax and spending rules, the BBC understands.

Rachel Reeves confirmed both tax increases and spending cuts are options in next month’s budget.

The Treasury declined to comment on “speculation” ahead of the Office for Budget Responsibility’s (OBR) final forecast to be published with the Budget on 26 November.

The OBR will present its final draft forecast to the Treasury on Friday, which includes productivity, a measure of the economy’s output per hour worked.

The forecaster had previously assumed a partial rebound in productivity growth, but this never materialized.

This productivity assumption is necessary for long-term growth prospects and thus even a small change in the current system A few billion pounds could change how much money the budget needs to raise.

The OBR is understood to have cut its productivity forecast by 0.3 percentage points – a figure first reported by the Financial Times – bringing its forecast closer to that of the Bank of England.

The Institute for Fiscal Studies think tank calculated that for every 0.1 percentage point drop in productivity forecasts, government borrowing would rise by £7bn in 2029-30; This means a 0.3 percentage point cut could add £21bn to the Budget hole.

The changes create an initial gap of £20bn, rather than the £10-14bn widely expected.

Such a hole can be plugged by increasing taxes, reducing public spending, or increasing government borrowing.

Reeves identified two main Budget rules that he described as “non-negotiable”. These:

• Not borrowing to finance daily public expenditure by the end of this parliament

• To ensure that the share of state debt in national income decreases by the end of this parliament

Reeves admitted to business leaders in Saudi Arabia on Monday that the OBR was “likely to reduce productivity”, which “has been very weak since the financial crisis and Brexit”.

The OBR is expected to explain the decision in detail, but some ministers have said privately that different choices might have been made at this summer’s Spending Review if it had done so earlier.

There are many other moving parts in the budget that could bring better news for the Chancellor, such as falling interest rates on government debt.

However, together with other pressures such as U-turns on welfare spending and the desire to create a larger buffer in public finances, speculation points to significant tax increases, including some possible breaches of manifesto commitments such as changes to income tax.

The Treasury will report its first draft budget measures to the OBR next week.