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The UK government is preparing new growth initiatives in a bid to avoid “catastrophic” tax rises after a difficult week in markets that threatens to derail its policy agenda.
UK borrowing costs climbed close to a 16-year peak on Friday, closing the worst week of the year for the gilts market after a sell-off that dragged down the pound and left the government scrambling to reassure investors about the state of public finances.
When Rachel Reeves returns from a trip to China on Monday, the chancellor plans to deliver a compelling “growth story,” including new economic policies, with a speech expected later this month, according to officials.
Officials said the government was determined to avoid further tax rises on top of the £40bn package it set out in October, with one saying “it would be absolutely catastrophic”.
Instead, the government is looking for growth and reining in public spending harmful increase in government borrowing costs.
Officials and ministers are prepared for potential reductions in ministries’ spending plans in the upcoming spending review, which will take place on June 11, according to people familiar with the process.
As part of its growth agenda, Labor plans to change the “write-up” process by which different departments agree to make policies together.
“Departments will be asked whether the policy will have a beneficial effect on growth and if the answer is yes, we will do so – as a broad principle,” said a Finance Ministry official.
At the same time, departments will also be given a strong message during the Spending Review process that if they are pushing policies that “hinder growth” then they will have to be “reconsidered”.
But economists warned that the sell-off in the gilt market exposed serious weaknesses in the party’s strategy for the economy and public finances, criticizing the government for failing to provide enough margin for adverse changes in the October budget and for being slow to detail growth initiatives.
“They now need to show they are serious about addressing the UK’s fiscal challenges in a higher-rate world,” said Ben Nabarro, UK economist at Citigroup. “This means tackling structurally weak growth. But they are also probably mistaken if they think that growth alone can save them from this fiscal hole. Some spending and tax adjustments are also needed.”
The Bank of England says the economy failed to grow in the final quarter of 2024, following weaker-than-expected GDP readings at the end of last year. Business surveys showed a loss of confidence after the tax increase in the October budget.
The yield on 10-year bonds ended the week at 4.85 percent, which is 0.25 percentage points higher than a week earlier, while the pound fell as low as $1.219which is its weakest level against the dollar since November 2023. Shares on the domestic FTSE 250 index fell 4 percent this week, the biggest drop since June 2023.
Reeves’ October budget, which included a sharp increase in borrowing, fell victim to a sharp sell-off in global bond markets on renewed inflation fears.
That has dragged down government bond yields everywhere as investors bet central banks will be slower to cut interest rates. That mixed with investor concerns about Britain’s economy would push the country’s 30-year borrowing costs to their highest level this century.
“The more yields rise, the worse the fiscal situation gets,” said Mark Dowding, chief investment officer for fixed income at RBC Bluebay Asset Management.
Strong US jobs numbers added pressure on the bond market on Friday, prompting traders to bet on an even slower pace of interest rate cuts by the Federal Reserve. The next key moment for plantations will be UK inflation data next week.
An area where Reeves will focus on major reforms is outlining new details of a new “planning and infrastructure bill” due to be introduced in the House of Commons in March, which aims to speed up development.
One senior Labor MP said: “The government desperately needs to put forward a plan for growth… and this is more important than ever for businesses facing higher National Insurance, a new package of employment rights and a higher minimum wage.”
Another Labor veteran said a recent poll showing Labor on as high as 24 per cent made him want to “bang his head on the table”, although they said Starmer’s leadership was likely to be safe for at least another year. “If Labor starts to look like they don’t have a coherent or even compelling narrative to sell the market, then they’re doomed, aren’t they?”
Data visualization by Keith Fray
