United Kingdom: Budget risks for fiscal headroom and rates - ING

ING economist James Smith expects the UK Autumn Budget to show reduced fiscal headroom as higher debt interest costs bite, with limited stimulus and modest tax hikes to rebuild space under fiscal rules. He sees only a small impact on the Bank of England, but notes that surprises on wage growth, spending and tax policy could alter UK bond issuance and rate expectations.

Fiscal headroom, spending and issuance

"In short, we don't expect the budget to deliver a material stimulus (or add materially to the already-planned fiscal consolidation). The impact on the Bank of England, which is poised to hike rates in November, is likely to be fairly minimal."

"We think that headroom will have dropped to around £10bn before any corrective action. And the vibe from the Treasury suggests the Chancellor would prefer it to be above £15bn, to give more breathing space in case of future adverse forecast revisions. That would point to some limited tax hikes."

"But even relatively small upgrades to wage growth can make a big difference to the government’s fortunes. Since 2010, the OBR has revised the level of earnings across its five-year forecast by an average of 1.3 percentage points in absolute terms. If it did that now, say by lifting wage growth over the next two years by 0.6ppt apiece, it would add £10bn to headroom, almost perfectly offsetting the hit from higher interest costs."

"Ultimately, the key thing to watch is the OBR’s assessment of how all these policy changes affect GDP growth and borrowing over the next year. If there’s a material stimulus effect, it could add to market bets on UK rate hikes."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)