During the general election campaign, Rachel Reeves appeared trapped in a straitjacket of her own making. By pledging not to raise income tax, National Insurance, VAT and corporation tax, she had ruled out deploying the taxes that account for more than two-thirds of government revenue.
Reeves had also bound herself to fiscal rules that radically limited the scope for investment. In order to meet her promise to reduce government debt as a share of GDP, Labour’s manifesto offered just £4.7bn of extra capital spending. Economists scoffed at its fiscal modesty: call this a growth plan?
But today, in an act of political escapology, Reeves will break free of these constraints. First, she will increase employers’ National Insurance as part of what some predict will be the biggest tax-raising Budget in history (the current record was set by Norman Lamont in 1993). Mindful that this may be her moment of maximum political leverage, Reeves has moved swiftly. Call it the Macbeth Budget: “If it were done when ’tis done, then ’twere well it were done quickly” (as is said of the murder of King Duncan).
The charge that Reeves faces is that she has killed one of Labour’s manifesto pledges. Party aides reject this claim, recalling that the Tories challenged them during the election to rule out an increase in employers’ NI (they didn’t). But what Reeves can’t deny is that this is a tax on business and, indirectly, “working people” – the criticism that she made of Rishi Sunak’s NI increase back in 2022. Expect the Chancellor to argue that the Conservatives’ profligacy left her with no choice. The facts have changed, so she has changed her mind.
Reeves’s second escape act is over borrowing. As first trailed a month ago in her Labour conference speech, the Chancellor will revise her debt rule to create more room for investment. Reeves is set to adopt a measure known as public sector net financial liabilities (PSNFL), which takes into account government assets – such as the student loan book and company shares. This would free up £50bn for investment, but Reeves is expected to settle for around £20bn to reassure the markets. She will also vow not to borrow for day-to-day spending (something that could necessitate future tax rises).
The Chancellor hopes that her extensive pitch-rolling will prevent anything resembling a Truss-style backlash (“the era of rabbits is over,” a Reeves source tells me). But more than Sunak’s Budget response – his last major act as leader of the opposition – eyes will be fixed on UK gilt yields (already at a post-election high).
Reeves’s wager is that the short-term pain of tax rises will be offset by the long-term gain of improved public services. This, polls suggest, is what voters expect from a Labour government. The nightmare for Reeves will come if the Conservatives can credibly argue that voters are “paying more for less”. That’s one reason the debate over public sector spending – and reform – is only just beginning.
This piece first appeared in the Morning Call newsletter; receive it every morning by subscribing on Substack here
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[See also: Paul Johnson: “Labour might get lucky on growth”]
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