Market turmoil forces Chancellor to plot spending cuts and even MORE tax hikes: Red alert for Rachel Reeves as borrowing prices surge greater than throughout Truss disaster

Rachel Reeves is drawing up contingency plans for emergency spending cuts or tax rises, as government borrowing costs soar.

Economists said a spike in rates could leave the Chancellor facing a £10 billion-a-year increase in debt interest payments – putting her on course to break her own fiscal rules.

Treasury sources last night acknowledged Ms Reeves could be forced to act as soon as March if sceptical financial markets continue to raise the cost of borrowing.

Tory business spokesman Andrew Griffith said: ‘Tragically, the gilt markets can see that the Government’s growth plan is dead on arrival.

‘It takes a certain level of incompetence to fiddle your fiscal rules and then still risk missing them.’

In a rare intervention, a spokesman for the Chancellor said her commitment to the fiscal rules was ‘non-negotiable’.

A source said Ms Reeves would not wait until the autumn Budget if a new economic forecast by the Office for Budget Responsibility (OBR) in March shows she is on course to break her rules.

The source suggested the Chancellor is against further tax rises or borrowing and will cut spending if market conditions continue – paving the way for a potentially huge Cabinet row over where the cuts should fall. 

Rachel Reeves (pictured) is drawing up contingency plans for emergency spending cuts or tax rises, as government borrowing costs soar

Economists said a spike in rates could leave the Chancellor facing a £10 billion-a-year increase in debt interest payments (File image of London’s skyline)

The welfare budget could also be targeted.

Ms Reeves, who has vowed not to raise taxes for the remainder of this parliament, is planning a major speech on the economy designed to reassure jittery financial markets that she has an ‘iron grip’ on the public finances.

One City analyst said market sentiment about the Government’s economic plans was ‘more dire’ than it was in the wake of Liz Truss’s notorious mini-Budget in 2022. 

It came as:

• The pound slumped more than a cent versus the US dollar to just above $1.23, a nine-month low

•  The FTSE 250 fell by 2 per cent to a five-month low

• Food prices will rise by 4.2 per cent this year after tax and minimum wage rises pushed up costs, the British Retail Consortium said

• Hiring has fallen at the sharpest pace for more than a year thanks to Labour’s National Insurance raid, according to a report

• Optimism among banks and other financial services companies fell in the wake of the Budget at the fastest pace since September 2022, a survey by the Confederation of British Industry found

Treasury sources last night said it was too early to tell whether the rise in borrowing costs would require corrective action in March.

Keir Starmer has promised the UK will have the fastest growth in the G7

Ms Reeves had not planned to make tax or spending changes when she makes a statement to parliament alongside the OBR’s forecast. But sources said she could ‘do something on spending’ if the situation required it.

A spokesman said the Chancellor would not countenance breaking her rules, which include the country’s budget being in balance or surplus by 2029/30, and public debt falling as a share of the economy in the same time-frame.

‘No one should be under any doubt that meeting the fiscal rules is non-negotiable and the Government will have an iron grip on the public finances,’ the spokesman said.

Shadow Chancellor Mel Stride said the intervention from the Treasury was ‘extraordinary’, adding: ‘When you have to issue emergency statements saying people should “be in no doubt” about your commitment to fiscal responsibility, you are acknowledging there are very significant doubts indeed.’

Yesterday, yields on UK ten-year gilts spiked to more than 4.8 per cent, the highest level since the financial crisis of 2008. And yields on 30-year gilts surged close to 5.4 per cent, a new 27-year high.

Gilts are UK government bonds – parcels of debt it sells to investors when it needs to borrow money. A rise in gilt yields means investors are demanding a higher rate to lend to the Government.

The interest rate on 30-year gilts reached 5.22 per cent, topping the spike seen in 2023

Reeves has previously been warned that the spike in UK borrowing costs is worse than the crisis that ended Liz Truss ‘s premiership

It spells trouble for the Chancellor as higher borrowing costs threaten to wipe out the so-called ‘headroom’ of £9.9 billion.

That is the amount of money left to spare in order to meet borrowing rules, according to forecasts made at the time of the Budget.

Sunaina Sinha Haldea, of wealth management firm Raymond James, told the BBC that although the ‘outrage in the media is a lot less’ than after Ms Truss’s mini-Budget, the mood in financial markets was worse. ‘The concern this time is more dire – the mood is darker,’ she added.

Kallum Pickering, chief economist at broker Peel Hunt, said: ‘If bond yields rise further, Reeves may be forced to make the economically damaging decision of further increasing taxes or cutting back on planned public spending to balance the books.’