New warnings on tax hikes for UK Chancellor

Chancellor Rachel Reeves faced a fresh economic growth dilemma after being hit by the second worst borrowing figures in more than three decades. The Treasury was blindsided by monthly government borrowing figures that rocketed far beyond predictions.

According to figures from the Office for National Statistics (ONS), the government borrowed £17.8bn in December, well ahead of the £14.6bn expected by the Office for Budget Responsibility (OBR). That was the third highest December figure on record, behind 2019 and 2020, putting borrowing for the financial year to date at the second-highest level since records began in 1993.

The numbers – a sizeable uptick on the figures for November – have further stoked fears that the government is struggling to get borrowing under control over six months into its administration and in the wake of Reeve’s eye-watering £40bn tax raid last October in her first Budget as Labour Chancellor.

Elliott Jordan-Doak, senior UK economist at Pantheon Macroeconomics, said the Chancellor was already under pressure to clarify how she would meet the fiscal rules. He said: “We expect the government to outline spending, reductions-backloaded towards next Budget in October (2025), is also a good bet.” All the more concerning for the Treasury is that the figures released in the last week of January did not include the sharp jump in the gilt yields seen in early January after a huge sell-off in UK government bonds.

Capital Economics estimates that the Chancellor’s headroom has been reduced from £10bn to just £2bn, as gilt yields are still higher than they were at the time of the Budget despite recovering from much of the turbulence in early January.

“Higher debt interest payments alone will make it a close call as to whether the Chancellor’s fiscal rules are met, even before considering other forecast revisions,” Matt Swannell, chief economic advisor to the EY Item Club, said.

The ONS figures will give further credence to the widespread belief that the government will need to unveil a slew of departmental cuts at its first spending review, due to complete in June.

Businesses have been told to brace for a “painful sequel to the autumn Budget” as fears mount over the outlook for the UK economy and a surge in government borrowing costs threaten to wipe out the Chancellor’s fiscal headroom. In a note to investors, Deutsche Bank warned that tepid growth toward the end of last year had raised the threat of further tax hikes from Rachel Reeves after her £40bn raid in October.

Growth in the UK economy is now likely to lag behind the Office for Budget Responsibility’s October projections after unexpectedly shrinking 0.1pc in October in the second consecutive monthly contraction, Deutsche Bank said.

“As a result of more borrowing and tax rises, we think, will be likely this year,” wrote Sanjay Raja, the chief UK economist. He added: “We think Chancellor Reeves will likely need to lift taxes at least one more time following last year’s historic tax raising event”.

Comments on further tax rise also came from another major European bank ING, where analysts said the Chancellor will have to do another “big top-up” of tax rises this parliament despite she previously vowed not to.

In its outlook for 2025, the Dutch lender said that Reeves’ controversial October Budget “is likely just the beginning of several more Budgets characterised by tax hikes. The prediction comes despite the Chancellor appearing to rule out any further hikes this Parliament at November’s Confederation of British Industry (CBI) conference when she said that she would not be “coming back with more borrowing or more tax rises.”

The author is our foreign correspondent based in the UK