Isabel Stockton, Senior
Research Economist at the IFS said:
"If recent rises in interest rates were to persist, they could
easily erode most of razor-thin margin against the main fiscal
rule. But the issue here is not so much that the past month has
been especially eventful, but more that the margin was so small
to begin with. If continuing to meet the fiscal target requires
new tax rises, or cuts to the already tight looking spending
envelope for the subsequent spending review, then the Chancellor
– and we – should not be surprised."
While debt interest spending in the
first eight months of the financial year has come in below the
October 2024 Budget forecast, recent rises in interest rates have
sparked concern (and a parliamentary urgent question for the
Treasury) that the OBR will forecast higher borrowing at their
next forecast at the Spring Statement scheduled for 26
March.
The Chancellor is aiming to balance
the current budget – that is, borrowing excluding investment
spending – in the medium term. Despite this being the medium-term
aim of chancellors for most of the last 25 years we have in fact
achieved balance only once since 2001-02 (in 2018-19, and then by
the most meagre of margins: just £800 million). At the October
Budget, the OBR was forecasting a current budget surplus of 0.3%
of national income (around £10 billion) in the three later years
of the forecast. As we commented at the time, this is a
razor-thin margin and even small forecast changes might mean that
further tax rises or a trimming back of planned spending would be
necessary to continue to meet the
target.
An increase of half a percentage point
across relevant interest rates – similar to the increase seen
over the last month in 10-year-gilts – would, if sustained, be
expected to add some 0.25% of national income to debt interest
spending in four years' time. This is around £8 billion. Unless
the OBR were to revise up growth or inflation at the same time,
this would reduce the margin against the fiscal target to almost
nothing – and with recent growth outturns disappointing, an
upwards revision to the OBR's growth forecast does not seem very
likely. However, the issue here is not that the past month has
been especially economically or fiscally eventful, but that the
margin was so small to begin with.
Looking at successive OBR's forecasts
since 2010, around half of all new forecasts (15 out of 29) have
involved a revision to the borrowing forecast of more than 0.25%
of GDP due to underlying economic factors. Some of these have
pushed down borrowing, but most have pushed it
up.
So the recent change is by no means
unusual by recent historical standards. Indeed, at the time of
the Autumn Budget past forecasting performance suggested that the
chances of the Chancellor's headroom being eroded by this Spring
were around one-in-four. This highlights the risk of governments
staking their fiscal credibility on targets that are met by
extremely thin margins. Under these circumstances perfectly
ordinary forecast revisions can make the difference between
meeting or missing them. If continuing to meet the fiscal target
requires new tax rises, or cuts to the already tight looking
spending envelope for the subsequent spending review, then the
Chancellor – and we – should not be that surprised.
You can read this on the IFS
website here.
