Warning high borrowing costs may mean tax rises or spending cuts

A leading economic think tank has warned that higher government borrowing costs could mean tax increases or spending cuts if the government wants to stick to its own self-imposed rules. According to a report by the Resolution Foundation, the government is paying £7 billion more per year in debt interest payments than was budgeted.

As a result, the think tank says that if the government wants to keep its pledge not to borrow more than it receives in tax revenue for day-to-day spending, it "may need" to raise taxes or cut spending. A UK Treasury spokesperson told the BBC that its commitment to the fiscal rules was "non-negotiable." The report comes ahead of Chancellor Rachel Reeves unveiling plans to boost the economy by backing a range of infrastructure projects, including a third runway at Heathrow.

Government borrowing costs began to rise after the autumn budget last year. The Resolution Foundation said that this increase was "largely driven by international factors," with government debt also rising in the US and Europe. Other economists have said that higher borrowing costs are at least partly a reaction to the slowdown in the UK economy. Nevertheless, the increases are far lower than after the 2022 mini-budget, and borrowing levels have fallen since hitting a multi-year high earlier this month.

However, the Resolution Foundation says that the risk of the government breaching its own fiscal rules is "still very much alive" as borrowing costs remain higher than in the autumn. James Smith, research director at the Resolution Foundation, said that Chancellor Rachel Reeves needs to adhere to the fiscal rules "or risk further market turbulence." He added: "While the Chancellor is rightly focused on fleshing out her long-term strategy for economic growth, difficult short-term decisions may also be needed in the coming weeks, including new tax rises or spending cuts, to signal her commitment to sustainable public finances."

The government has already indicated it wants to reduce "waste" and has said that tax rises are possible. Ms. Reeves said in December that departments would be asked to find 5% "efficiency savings" as part of a review to set budgets for future years. A UK Treasury spokesperson told the BBC that "the Chancellor has made clear that tough decisions on spending will be made, and a spending review is underway to eliminate waste." Meanwhile, when asked by the BBC in December, Sir Keir Starmer, the Prime Minister, did not rule out further tax rises.

Sir Keir said: "If you look at Covid and Ukraine, everyone knows that there are things that we can't see right now, but I can tell you that our intention is to do the tough things in the budget, not to keep going back."