Reeves can no longer outrun Labour’s early choices
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Keir Starmer is searching for a new economics adviser. The job description appears to be someone good, but not so good that they will cause destabilising rifts with the chancellor. Big hitters need not apply.
The prime minister’s detached approach to economic policy, leaving all the thinking to the Treasury, is a well-established weakness of his Number 10 and this government. It will take more than a new wonk in Downing Street to solve Labour’s challenges but few can doubt the need. Starmer and his chancellor, Rachel Reeves, are facing a fiscal reckoning. Put simply, Labour can no longer outrun the consequences of its early economic and political choices.
There are good things in next week’s spending review. Supporters will cheer the £113bn of capital investment, the first tranche unveiled on Wednesday with a raft of rail, bus and tram projects. (You wait years for a transport scheme outside London and then dozens come at once.) MPs have welcomed what looks like a pivot back to the levelling-up agenda. But the capital boost cannot disguise the squeeze on current expenditure for most departments beyond health and defence.
That Labour inherited a mess is unarguable. But it also hobbled itself with assumptions and tax pledges. Its economic strategy was built on the belief that the change of government would restore confidence and so begin an investment-led recovery, primed by government spending on infrastructure, housing and clean energy. The growth this would secure would finance Labour’s broader ambitions.
Fortified by this belief and terrified of Conservative campaign attacks, Labour went into the election promising rigid fiscal rules and no increase in income tax, national insurance, VAT or corporation tax. (Though Reeves pushed the limits of that pledge with a hefty rise in employer NICs and retained the Tory freeze on income tax thresholds.) Alas, higher growth is yet to materialise, the Trump presidency has added to economic pressures and Labour’s collapse in popularity has panicked MPs.
Reeves’ rules and pledges no longer match the limited political pain the party is prepared to bear. She will not scrap her fiscal rules, nor should she. Aside from the concerns about market reaction, it would destroy discipline among spendthrift MPs. There is no stomach in the party, or perhaps the country, for large spending cuts (save the money devoted to asylum seekers). Labour fears that constraints will stymie pledges on housing and public services.
Starmer is already retreating over cuts to pensioner fuel payments, which MPs blame for last month’s disastrous local election results. This alone would not be disastrous. Voters like being listened to. But many MPs see it as a green light to resist other welfare cuts, specifically to disability benefits, and to demand the reversal of a Tory cap on payments to families with more than two children.
Yet the wider issue is that the spending review, which covers much of the rest of this term, will leave many problems unaddressed. Local councils could still go bust and universities warn of closures. Social care remains in crisis. Police chiefs are publicly campaigning for extra cash, not least to cope with plans for more early prison releases and community sentences. Even defence, a winner by most measures, has so far been denied a firm date for hitting the spending target of 3 per cent of GDP in this week’s strategic defence review. That itself is short of Nato’s demands.
MPs increasingly lament what one calls the lack of “moral narrative”. The words “Plan for Change” pepper ministerial communications in an attempt to manage public impatience, but this hardly conveys conviction. One Starmer ally argues that too many choices seem driven by Treasury needs rather than a strategy to improve the lives of those in whose interest it aspires to govern.
With the fiscal rules untouchable and Labour stiffening against cuts, Reeves will soon be forced to look elsewhere. One senior insider admits that now is only about “the quantum of revenue” required. Some pundits argue she must plead the new circumstances of the Trump presidency and break her manifesto tax pledges. But governments require truly exceptional circumstances to justify breaching explicit pledges, however foolish.
So Reeves will look for stealth increases, such as prolonging the freeze on income tax thresholds at least for higher earners. Other ideas floated include taxes on the gambling industry, paring back pensions tax relief or closing a loophole on stamp duty for commercial property. The steady fall in petrol prices since 2022 would justify ending the freeze on fuel duty.
The central question is not whether Reeves will raise tax in the autumn Budget but just how far she feels able to go. Political strategy precludes hitting ordinary voters. She has so far shown little appetite for tax reform; business has been heavily raided and efforts to raise more from non-doms appear to have backfired. The critical danger for this government remains falling between every stool, raising enough tax to frustrate growth but not enough to meet spending ambitions.
Ahead of her first Budget, Reeves assured business that her huge tax rises were a “one and done”. What seemed optimistic then looks unsustainable now. Maybe she and Starmer could use the extra advice after all.
