Macro moments weekly: Healey Budget—breathing space on borrowed time?

Key takeaways

• Breathing space, but not a solution: The Budget avoids immediate fiscal disruption, but significant spending commitments remain unfunded.
• Households face further pressure: Rising taxes and inflation could keep real disposable incomes under strain, challenging expectations of lower household savings.
• Political uncertainty could unsettle gilts: An early general election may be closer than expected, introducing risks that are not yet reflected in gilt prices, according to Michael Browne.

The UK budget is a unique and ancient stage. It is where politics and principles meet the markets and voters at the same time. The Chancellor, a title reserved for the top job in other European countries, is allowed to drink alcohol while delivering the Budget, although no Chancellor has done so since 1997. No other MP is granted such permission. What they say is a closely guarded secret, so as to prevent insider trading in the markets. In 1947, the then-Chancellor Hugh Dalton, resigned the day after the Budget. He had spoken to a journalist minutes before the speech and divulged several of its “secrets,” such as a “penny on beer,” which were promptly printed in the London Star at around 3.45pm, before he had even announced them in Parliament.¹

In his first budget, John Healey made no such mistakes. The leaks that were a feature of the previous two budgets from Labour did not happen. It was trailed as dull, safe, a breathing space—and it was all those things. It contained more measures than any previous Budget, most of them so small as to make little or no difference. The larger ones included help for first-time buyers and a time-limited increase in the bank tax surcharge.²

Why, when the world wants you to show your fiscal probity, would you time-limit a revenue-raising tax on a perennially unpopular industry? Because the budget is a bridge to what happens next. He was left with an array of tax-raising measures in 2027, 2028 and 2029, which are expected to bring in sufficient revenue to cover previously announced spending.

Except they will not. There are several commitments still to be funded. First, there is the UK’s commitment, alongside its NATO partners, to increase defence spending. The Office for Budget Responsibility (OBR) estimates that reaching 3.5% of GDP by 2035 would cost an additional £35 billion in today’s prices.³ Add to this the new prime minister has committed to getting some of the one million people aged 18-24 who are not in education, employment, or training into work.⁴ How much? Then there is the Timms Review of Personal Independence Payment (PIP), which is considering changes to the support available for disabled people. There are around four million PIP claimants today.⁵ Then there is the new National Care Service in England, which could cost between £3.5 billion and £17 billion a year, according to estimates cited by the OBR.⁶ Taken together, these commitments could add tens of billions to future spending.

Compared with the plans Labour inherited, the government has increased planned day-to-day spending by about £100 billion, financed through roughly £70 billion in higher revenues and £30 billion in additional borrowing.⁷ With bond markets less willing to finance further borrowing cheaply, politicians who want more cash to spend must raise taxes. The UK’s tax burden is set to reach a record high as a percentage of GDP, while government spending will remain historically elevated. The rising tax burden, particularly from income taxes, combined with inflation, will all but ensure that real household disposable income remains under pressure next year. And it will not start to rise meaningfully until 2028 at the earliest.⁸

Curiously, as taxes rise to fund government expenditure, households are expected to save substantially less.⁹ But with higher interest rates, an uncertain future and tax rises on the horizon, why would the UK consumer dip into their savings?

But there is a bigger problem for a politician. Whilst the markets are willing to give the benefit of the doubt in the short term, the voters will be less likely to do so. The new prime minister has made a strong start, so strong that the polls now suggest he has an outside chance of retaining his majority if there were an election tomorrow—a position his predecessor was far away from. If he waits, as he said he will, with households becoming worse off, will the polls become more or less favourable? In a first-past-the-post system, the difference between 27% of the vote and 24% is about 100 seats, as the Conservatives discovered at the last election. 

This budget may give the economy and the markets time to breathe, but the voter? It all points to an election in the UK sooner rather than later, perhaps at the same time as the French go to the polls in May 2027. This political risk, with the prospect of no clear winner and the formation of fragile coalitions, is not yet priced into the gilt market. The FTSE 100 Index, where 82% of revenues come from outside the United Kingdom, ought to be unaffected.¹⁰