(Bloomberg) — UK Chancellor of the Exchequer Rachel Reeves announced a package of politically divisive cuts to welfare and government departments to fill a hole in the country’s finances after this year’s growth forecast was cut in half.
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The Labour government was forced to turn to spending reductions halfway through the fiscal year as weak growth and rising borrowing costs had put Reeves on course to break a budget rule that she uses to reassure the markets. While the chancellor had ruled out further tax rises after £40 billion ($51.5 billion) of extra levies in October’s budget infuriated British businesses, she faced warnings from the ruling party’s leftwing that she was edging toward austerity.
Reeves detailed a £14 billion package of measures in the House of Commons on Wednesday that put her on a path to meet her fiscal rules as judged by the Office for Budget Responsibility. That included some £8.4 billion of welfare reductions and day-to-day spending cuts, an extra £3.4 billion largely from higher revenues from planning reforms and £2.2 billion from more efficient tax collection.
The moves left her with the same fiscal buffer she had in October: £9.9 billion.
“There were some people who said, ‘Oh, you can wait until the autumn to restore the headroom,’ but I’ve been really clear: stability is the No. 1 priority of this government because that’s how you bring growth back to the economy,” Reeves told a news briefing Wednesday afternoon. “People should have no doubt about my commitment and how seriously I take the fiscal rules. As I said today, they are non-negotiable.”
The public finances also get a technical boost as the government shifts current spending to capital projects, which are exempt from the main fiscal rule. So Prime Minister Keir Starmer’s plan to divert part of the foreign aid budget to the military to raise defense spending to 2.5% of GDP, ended up easing Reeves’s immediate budget challenge.
Debt markets seemed to welcome the emphasis on fiscal responsibility. Gilts had one of their best days of the year as the government announced a smaller-than-expected slate of bond sales for the upcoming fiscal year, with issuance skewed away from longer-dated securities. Yields on 30-year debt fell as much as 9 basis points, the most in more than a month.
The UK plans to sell £299 billion of bonds. That was less than the £302 billion estimated in a Bloomberg survey of market participants, although it’s still one of its biggest issuance programs on record.
The OBR said the UK economy was only set to grow 1% this year, down from its previous forecast of 2%. While the downgrade had been widely anticipated, the official fiscal watchdog’s projections forced Reeves to make the cuts now.
Reeves sought to blame external forces, repeatedly saying the that world had changed since her budget, in an apparent reference to US President Donald Trump’s election. Trump has upended the global trade system with tariffs, while European governments are having to divert billions toward defense spending as the White House reduces its support for the continent against Russian aggression.
Gross domestic product has barely grown since Labour won a landslide election victory last summer, with opposition parties accusing Reeves of talking down the economy before destroying confidence with the October budget’s tax hikes.
“What the British people know is that this is a consequence of her choices,” said Mel Stride, the Conservatives’ Treasury spokesman. “She is the architect of her own misfortune.”
While Reeves has recovered her headroom — the extra space in her budget plans above the level at which she meets her fiscal rules — it remains relatively low by historic standards, particularly given the extent of global volatility. Paul Johnson, of the Institute for Fiscal Studies, said the headroom was still small enough to leave the chancellor at the “mercy of events,” and predicted “six or seven months of speculation about what taxes might or might not be increased in the autumn.”
The OBR itself said the probability of Reeves meeting her fiscal rule at her autumn budget is only 54%, raising the prospect of another set of major changes later this year.
What Bloomberg Economics Says…
“With historically low headroom, the risks the chancellor is blown off course again — either by external shocks or forecast changes from the OBR – are uncomfortably high. Markets should brace for the possibility of more forceful corrective action in the Autumn budget.”
—Dan Hanson and Ana Andrade, UK economists
Another problem facing Reeves is that her thin headroom may soon be tested by Trump’s tariff threats. If the US imposes levies on all of its trade partners, including the UK, that would leave Labour in deficit for most of the forecast period. Reeves would only meet her fiscal rules in the final year with a tiny £0.3 billion to spare.
A key part of Reeves’ £14 billion fiscal repair operation came in the form of welfare cuts, largely by making it harder for people to claim a benefit for the disabled called personal independence payments. Yet it’s a move that’s generated anger on the Labour backbenches.
That frustration was fueled on Wednesday by a government impact assessment showing the welfare changes would push an extra 250,000 people into relative poverty by 2030, and several of her own MPs attacked the move after her Commons statement.
“Taking away the personal independence payments from so many disabled people is an especially cruel choice,” said Richard Burgon, a left-wing Labour MP. “Making cuts instead of taxing wealth is a political choice.”
Meanwhile, day-to-day spending will grow by 1.2% per year in real terms between 2025-26 and 2029-30, compared with 1.3% under her previous plans.
The lower projection for public spending heralds potential real terms cuts for some unprotected government departments — such as justice, the environment and the Home Office — which is also politically tricky for Reeves given her previous commitment that there would be no return to austerity under a Labour government. The OBR said day-to-day spending on unprotected departments is due to fall by 0.8% a year in real terms from 2026-27.
“There is nothing progressive about working people paying the price of economic irresponsibility,” Reeves said. “The British people put their trust in this government because they knew that we would never take risks with the public finances.”
–With assistance from Aline Oyamada, Rachel Evans, Andrew Atkinson and Irina Anghel.
(Updates with Reeves comment in fourth paragraph.)
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