Rachel Reeves faces the prospect of her newly-restored fiscal headroom being wiped out again ahead of the Autumn budget, raising the spectre of fresh take hikes in the future as she battles sluggish growth and economic headwinds.
The Chancellor had previously left herself £9.9bn of headroom but the OBR calculated the UK was in fact heading for a deficit of £4.4bn, forcing the Chancellor to make spending cuts in welfare and across the civil service in order to restore her headroom to just under £10bn once again.
In a press conference delivered after the Spring Statement, OBR committee member Tom Josephs said the headroom – the third-smallest such margin any Chancellor has set against the rules – was at risk of collapsing due to poor UK productivity and escalating global trade tensions.
“We assess the probability of meeting the target, with that amount of headroom, is basically around 50 per cent,” Josephs said.
“It would not take much to eliminate that headroom again,” he added.
“A 0.6 per cent increase in gilt and interest rates, 0.1 per cent lower productivity and the worst case tariff scenario could eliminate the headroom.”
The lack of leeway built in has left City leaders on edge.
Modupe Adegbembo, an economist at the investment firm Jefferies, said: “Given how easy it was for the headroom to be eroded by around £15bn in 5 months, we could be back in the same position by the time we get to the Autumn Budget.”
Adegbembo said the small headroom left meant tax rises were more likely.
Sanjay Raja, chief UK economist at Deutsche Bank, agreed: “To state the obvious, the latest public finances data was even worse than the OBR expected – signalling further downward revisions to the public finances on the horizon. Reeves’ fiscal headroom remains historically low, too – something the Treasury will need to navigate for the foreseeable future.”
“In our view, further fiscal consolidation will be likely with some modest tax hikes inevitable by year-end.”
Laith Khalaf, head of investment analysis at AJ Bell, said: “The chancellor pulled the tax lever hard last October to meet her own self-imposed fiscal rules, and this time around, it’s spending which is in the firing line to balance the hole in the books created by shifting macro-economic factors, most notably interest rates and inflation expectations.
“Rachel Reeves has chosen to restore her headroom but unfortunately this is still a relatively small buffer which leaves the public finances vulnerable to small corrections in the forecast.”
“If real economic data points fail to match up with the OBR’s predictions between now and the Autumn Budget, you can be sure that will fuel further speculation on more tax rises to come.”
The OBR also confirmed it has halved its UK growth forecast for 2025 to one per cent and upgraded its inflation prediction for 2025 to 3.2 per cent.
While the fiscal watchdog said UK growth would be higher than it had previously expected after 2026, it warned that a trade war incited by President Donald Trump’s tariffs could take a hit of up to one per cent on UK growth.
No tax hikes were announced at the Spring Statement although the government will begin to receive some £40bn in taxes from next week when the rise in employers national insurance contributions kicks in.
OBR committee member Professor David Miles said that surveys showing low business and consumer confidence contributed to the fiscal watchdog’s decision to downgrade the UK’s economic outlook for 2025.
Reeves’ tax raid has exacerbated low business confidence with fewer firms planning to recruit staff.
Manufacturing has also fallen at the beginning of the year, with businesses blaming hikes to national insurance contributions (NICs).
The changes announced last Autumn include a lowering of the threshold at which employers make NICs to £5,000, plus an increase in the rate from 13.8 per cent to 15 per cent.
Economists at the Institute for Fiscal Studies (IFS) said that policy decisions made by Reeves at the Spring Statement created more uncertainty.
“Reeves has left herself with the same £9.9 billion sliver of headroom against her target to balance the current budget as she had in October, and a very similar amount of headroom against the target that debt should be falling in 2029–30,” Paul Johnson, the IFS’ director, said.
“We can surely now expect six or seven months of speculation about what taxes might or might not be increased in the autumn.
“There is a cost, both economic and political, to that uncertainty. The government will suffer the political cost. We will suffer the economic cost.”
The OBR was also unable to make assessments of various Labour policies after ministers supplied the fiscal watchdog with information at late notice.
Labour’s flagship Employment Rights Bill was also not considered by the OBR as there was “not yet sufficient detail or clarity” about its impact on the economy – although the government’s own impact assessment suggests an additional cost to employers totalling £5bn.
Professor Miles said it was “difficult” to know how the Bill would look as it is currently passing through Parliament but said there could be a “mild impact” on employers.
“Probably, on balance, the risks are that it’s slightly negative for employment,” he suggested.