UK's Budget: Short-Term Wins, Long-Term Worries

Finances Doing Better Than Expected

The UK's recent budget announcement brought a mix of good news and concerns. Finance Minister Rachel Reeves declared that the country's finances are performing better than expected, providing the government with more financial flexibility.

Concerns Over Day-to-Day Spending

One major concern was the UK's ability to balance its day-to-day spending by 2030. Investors worried that the government might miss this target. However, higher inflation boosted government income, allowing Reeves to avoid raising income tax or cutting spending.

Tax Adjustments and Market Reactions

Instead, Reeves increased the headroom by raising other taxes, which pleased the gilt market. 10-year gilt yields fell to 4.4%.

Political Compromises

Reeves also had to appease her party. With Prime Minister Keir Starmer facing low popularity, many demanded more government spending. Reeves announced welfare payment increases but avoided raising income or value-added tax. Instead, she froze income tax thresholds and raised taxes on gambling and expensive properties, potentially generating £26 billion annually.

Bank of England and Inflation

The Bank of England may now be more likely to cut interest rates. The Office for Budget Responsibility (OBR) believes measures like freezing rail fares and reducing energy bills will help lower inflation.

Long-Term Challenges

However, these political compromises come at a cost. Reeves' plans to tighten spending are set for the last two years of the parliament, while the next two years will see significant stimulus. The OBR assumes households will spend their savings, which hasn't happened before. Promised tax increases and spending cuts before the 2029 election may not be realistic.

Potential Risks

A fiscal crisis isn't expected soon, but if the economy worsens, more talk of tax increases could hurt business and consumer confidence. The budget also lacks ambitious tax reforms and growth-boosting measures, such as investing in energy generation.

By trying to please everyone now, the government might end up pleasing nobody in the long run.