Reeves’s impossible choice: broken tax promise or ‘austerity’

This time last year, Rachel Reeves said she had “no plans” to raise any taxes apart from the small increases, including VAT on school fees, that she had already announced. When her interviewer pointed out that “no plans” was a politician’s standard non-denial denial, she responded: “We won’t be doing that. It’s a denial. It’s not a non-denial, it’s just a denial.”

I wrote at the time: “Maybe it is just politics, and she will go back on it once in government. But that seems like a bad idea, and asking for trouble.” And so it came to pass. Post-election honeymoon or no, the Labour government is in trouble. The chancellor and prime minister face an unavoidable choice. They tried to put it off by setting the date of the Budget as late as they could: 30 October. But they will still have to make their choice.

It is not just a choice about this year. The politics of that are just about manageable. Reeves says, with some justice, that the Conservatives left the public finances in a worse state than she in opposition could have known. She dealt with part of that in her speech on the “public spending inheritance” on 29 July — whatever you do, don’t call it a mini-Budget – in which she announced the cut in winter fuel payments.

The rest of the gap she can bridge with normal Treasury clevernesses in the Budget. But in that Budget, she also has to set out detailed spending plans for the next three years as part of a credible trajectory for the next five years. On this, she cannot pretend that the Tory legacy is worse than she thought. The Tory plan for five years ahead was for public spending to rise by 1 per cent a year more than inflation. As Sam Freedman, Michael Gove’s former adviser who was crying “Iceberg!” before the election, says, this is essentially no increase at all once population growth is taken into account.

Reeves, and Keir Starmer, knew before the election that they would have to pay public sector workers more than 1 per cent above inflation to settle the strikes. They knew that in years two to five of a Labour government there would be a yawning gap between what they must spend, as a simple requirement of viability for a party seeking re-election, and the money they will have coming in. Unless, that is, there is a miracle of economic growth akin to Ireland’s around the turn of the century – which is why their only way of not looking ridiculous in the election campaign was to go on about growth as their first “mission”.

Barring miracles, however, taxes will have to rise. Strictly speaking, there are two other options, which can be ruled out. Big cuts in public spending could be made in departments that voters don’t care about. The foreign aid budget could go, having been reduced by Rishi Sunak, although a surprisingly large part of it is spent on housing asylum seekers here. The Labour Party is already in a pre-rebellious ferment over winter fuel payments and the two-child limit on benefits – of which more in a moment; I don’t think it would tolerate a cut in international development.

The nuclear deterrent could go: many Labourites would be happy with that. The deputy prime minister and foreign secretary even voted to abolish it eight years ago. But a patriotic, national-security-first prime minister is not going to do that. Besides, it would save a smaller amount of money than most of its critics imagine. The second option for avoiding hard choices is to borrow more. Here, the debate is often confused. Yes, the fiscal rule that Reeves has copied from the Tories is daft — that borrowing should be falling by the fifth year of a forecast period that resets every year. It would make sense to borrow more for capital investment if we could be reasonably sure of a return on our money. But that does not apply to the salary costs that account for the bulk of spending on most public services. Any attempt to borrow more to pay for higher public-sector wages would drive the markets into a Truss-style meltdown.