The true state of Labour’s fiscal inheritance continues to divide opinion.
Over the first few weeks in office, the new government has been painting a very gloomy picture of the state of the public finances.
The doom-mongering reached new heights last week after Sir Keir Starmer argued the state of the public finances were “worse than we ever imagined“, a thinly veiled justification for tax increases down the line.
Chancellor Rachel Reeves has already taken steps to plug an alleged £22bn ‘blackhole’ in the nation’s finances, including by cutting winter fuel payments for the vast majority of pensioners and slashing infrastructure spending.
On Sunday, Lucy Powell, leader of the House of Commons, said that these cuts were essential. “If we didn’t, we would have seen the markets losing confidence, potentially a run on the pound,” she said.
Powell’s comments were widely seen to be stretching the truth, to put mildly. “Are you on crack?” Michael Hewson, formerly chief markets analyst at CMC Markets, wrote on X.
Analysts at Shore Capital were only slightly more polite. “Lucy Powell does not instil confidence,” Clive Black, head of consumer research at Shore Capital wrote. Her comments “raise concerns about the economic literacy of elements of Government”.
Powell’s comments fit into a broader fear in the City that Labour’s gloomy rhetoric might be hamstringing an economy that is actually performing quite well.
The UK was the fastest growing economy in the G7 in the first half of the year while inflation has returned to the two per cent target without a big spike in unemployment.
Measures of business and consumer confidence have climbed to their highest levels in years, indicating that the recovery has legs.
“The government should be trying to nurture these green shoots of growth. Instead, its overly downbeat commentary may undermine confidence and frighten consumers and businesses into needless caution,” Karl Pickering, chief economist at Peel Hunt, wrote last month.
Nevertheless, there’s no doubt the government is facing serious spending pressures, pressures which the previous government did little to alleviate.
The last spending review took place back in 2021 and determined departmental budgets until 2024-25. A lot has changed in the meantime.
In 2021, the Office for Budget Responsibility (OBR) forecast that inflation would rise to 4.4 per cent whereas inflation actually peaked at over 11 per cent, putting departmental budgets under immense strain.
Treasury data from July showed that actual spending had been £16.9bn higher than forecast in 2022-23 and £23bn higher in 2023-24.
A leaked letter from Simon Case, Britain’s most senior civil servant, argued that at least some of the pressure on the public finances was the result of the Conservatives’ refusal to publish another spending review.
“The sizeable in year changes to spending plans in recent years have resulted from the lack of a new spending review to replan departmental budgets in the face of significant pressures that have materialised since budgets were set in 2021,” he wrote to Jeremy Hunt.
“Unlike previous years this government has set out to parliament the pressures it is having to manage down and the actions it is taking to do so,” he said.
Labour might be overplaying the doom and gloom, but that does not mean there are not difficult decisions to make in October. Either way, expect to hear a lot more from both sides in the weeks and months to come about how bad the economy really is.