At the end of October, UK Chancellor of the Exchequer John Healey is due to deliver the first budget of the Burnham government. Somehow, he has to reconcile plans to spend more public money on the many promises coming out of No. 10, manifesto commitments not to raise the three main taxes and the need to stick to the fiscal rules he inherited from Rachel Reeves.
These rules were first developed by George Osborne early in the 2010-15 coalition government and retain many of the original features. They have unfortunate properties. Because the two main rules concern what will happen in three years’ time, they do not really constrain short-term spending or deficits, yet they require tougher budgets in the future. Even then, the three-year period is a ‘rolling’ one, with the targets pushed into the future: a fiscal version of mañana.
The autumn 2025 iteration of the Charter for Budget Responsibility requires that: ‘The current budget must be in surplus in 2029-30, until 2029-30 becomes the third year of the forecast period. From that point, the current budget must then remain in balance or in surplus from the third year of the rolling forecast periods.’
It also requires: ‘a target to ensure debt… is falling as a share of the economy by 2029-30, until 2029-30 becomes the third year of the forecast period. Debt should then fall by the third year of the rolling forecast period.’
Changing the rules
Variations on the rules have seen debt put first and the rolling period set at five years, but the fact they have been revised every couple of years is, itself, a reason for criticism. A rule the government is able to change frequently loses credibility and will not reassure increasingly nervous bond markets.
Two additional elements of the fiscal framework can also be interpreted as rules, albeit less known and with limited influence. The first is the statement as one of the principles set out in the Charter: ‘to move towards borrowing only for investment’. This is often called a golden rule, a version of which was introduced by Gordon Brown when he was the chancellor, while Germany ostensibly had such a rule up to 2009 when the Merkel government replaced it with the now suspended debt brake.
The main problem with golden rules is the difficulty of specifying what constitutes investment. On the one hand, decision-makers will always seek to define their pet projects as investment. On the other, investment is often seen through the lens of physical capital, such as buildings or infrastructure, whereas education or skills are typically classed as current spending, even though they manifestly underpin growth.
Second, there is ‘a target to ensure that expenditure on welfare is contained within a predetermined cap and margin set by the Treasury’. This welfare cap is supposed to be set in the first budget of a new government and apply for the duration of the parliament. It covers only around half of welfare spending, notably excluding pensions.
If the Office for Budget Responsibility deems that the cap is breached, as it is prone to be, there is a bureaucratic reporting process in which the minster for work and pensions reports to the House of Commons. The minister can either propose remedial measures or justify the breach. Despite the seemingly relentless rise in welfare, this process receives next to no public attention. The affordability of the pensions triple lock and the challenges of activating young people who are out of education, employment or training reviewed in the Milburn report highlight the need for change.
Living beyond means
The principle underlying the deficit and debt mandates is to ‘keep debt on a sustainable path’, but they have hardly been conspicuously effective. Using the so-called Maastricht definition adopted by the European Union, the June 2026 Office for National Statistics data show that gross public debt increased as a share of gross domestic product during the relatively benign 2010s, up to 2016, before falling slightly. It rose sharply during the pandemic years and has barely fallen back since.
Angela Merkel told the December 2008 Christian Democratic Union party conference in Stuttgart: ‘You can’t live beyond your means in the long run. That is the core of the crisis.’ Her channelling of the renowned Swabian housewife may be going too far, but in the four fiscal years following the pandemic (2022/23 to 2025/26) the UK’s average public deficit has been 5.3% of GDP, and the markets are increasingly edgy about fiscal sustainability. The high and rising debt service burden ought to be seen as a stark warning.
A key priority is to establish a credible trajectory towards a lower debt-to-GDP ratio now, not in a rolling, flexible future. Drawing on practices in other countries with markedly better fiscal positions, establishing a benchmark for public debt should be a first step. A rule should then be devised to ensure annual progress towards it: the further the current position is from the benchmark, the greater the adjustment required.
A second change should be more explicit ceilings on public expenditure – the component of the public finances the state directly controls. Ideally, this would be all public spending other than debt service. As in Sweden, the approach could be in two stages: setting an aggregate then agreeing ceilings on major headings of public spending. In this way, a beefed-up welfare cap and revised targets for new needs, such as increased defence spending, could be factored into budgetary plans.
Third, the notion of borrowing only to finance investment should be refined to become borrowing to foster growth. There would need to be checks (perhaps by the OBR or a new growth agency) to verify that major projects financed can stimulate higher growth, and protections against the sorts of machinations that have undermined golden rules in the past. Some provision for escape clauses in case of the unexpected would also be prudent.
As Mr Micawber put it in Charles Dickens’ David Copperfield, ‘Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds nought and six, result misery.’ The Micawber principle may not be the best guide to running the public finances, but nor can it be wholly ignored.
The hard facts tell us the current fiscal rules do not work and need to be re-thought. Certainly, a new chancellor changing the rules will face criticism from all sides, markets included, but if debt is to be more sustainable, it has to fall soon and consistently. Markets might even look more favourably on rules more likely to assure fiscal sustainability.
Iain Begg is a Professorial Research Fellow at the London School of Economics and Political Science’s European Institute.
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Image credit: UK Treasury