REVEALED: Chancellor plans £15bn spending squeeze

Rachel Reeves is set to announce a spending squeeze of up to £15 billion in an attempt to balance the books – and more tax rises are in the pipeline if the economy continues to flatline, City experts predict.

The Chancellor will say in Wednesday’s Spring Statement that the world has changed as her justification for slashing Whitehall budgets and cutting red tape. It is poised to be the biggest assault on public services since the austerity years of George Osborne, one of her predecessors at Number 11.

But tax and spending watchdog the Office for Budget Responsibility (OBR) is likely to take a cautious view on how much of these savings – such as rolling out artificial intelligence across government departments – will actually be achieved. It delivers its verdict on the public finances the same day.

In another blow for Reeves, the OBR is expected to halve its growth forecast for 2025 to around one per cent. This will pile more pressure on her to raise taxes again later this year to meet her fiscal rules.

These state that day-to-day government spending must be paid for out of taxation, not borrowing. The rules also stipulate debt must fall as a share of national income by the end of this Parliament.

In October the OBR said Reeves would meet her first fiscal rule with a meagre £10 billion of ‘headroom’ to spare. But that headroom has been wiped out as her £25 billion Budget raid on employers’ National Insurance hit business confidence and strangled growth, causing government borrowing costs to soar.

Fickle finger of fate: Rachel Reeves will say that the world has changed as her justification for slashing Whitehall budgets and cutting red tape

The Chancellor has ruled out any major tax rises this week. Therefore, economists say, she will have to find spending cuts of up to £15 billion to rebuild a buffer that is credible to financial markets.

Growth prospects have dimmed since US President Donald Trump threatened to unleash a global trade war by imposing steep tariffs on nations including Canada, Mexico, China and the EU.

Plans to increase defence spending to reduce the UK’s reliance on military support from the US will be paid for by cuts to the foreign aid budget.

The Government has also announced £5 billion of savings from benefits payments.

Another £10 billion could be found from the budgets of ‘unprotected’ departments such as the Home Office, courts and prisons, the environment and from local government. The latter, however, is responsible for social care for the elderly, which is in great demand.

Health reforms – including the recent decision to abolish the NHS England quango – could net another billion, while making more public services digital and reforming the civil service may yield another £3 billion and £2 billion respectively. 

However, the OBR is unlikely to include all of these savings in its forecasts, not least because the Government’s Spending Review is not due until the summer, said Sanjay Raja, UK economist at Deutsche Bank.

The OBR is therefore likely to pencil in savings of less than £15 billion, he said.

That would leave Reeves meeting her fiscal rules with around £12 billion in hand – slightly more than before.

The watchdog may also lower its forecasts for the economy’s longer-term growth potential.

It has been accused of taking an overly rosy view of productivity as measured by output per hour worked.

If the OBR assumed the past 15 years of sluggish productivity growth continues for another five, then Reeves would be staring into a £45 billion ‘fiscal hole’, research by Bloomberg Economics found.

Some economists take a somewhat more optimistic view. ‘Our hunch is that the OBR will, roughly, stick to its guns on growth potential, at least for the time being,’ said economists at investment bank Investec.

‘This would limit just how much of a spending squeeze is needed to meet the fiscal rules.

‘Overall we judge that Chancellor Reeves will be forced to pare back her Budget spending plans by at least £10 billion, but we doubt that she will have to make as much as £20 billion of savings to meet her rules and to give her a credible amount of headroom.’

Taking an axe to public spending will be politically difficult for the Government.

But Reeves will be most concerned about how the financial markets react to her update.

The Treasury said it did not comment on ‘speculation’ around OBR forecasts.