UK: Labour Government Must Prioritise Pro-growth Policies Amid Limited Fiscal Space

On economic policy, the incoming government will seek to turn the page on improving public services. The clearest commitment to public spending in the Labour-Party manifesto was around improvements to the National Health Service (NHS), which will add budgetary pressure given the significant associated costs (GBP 1.8bn in annual funding above the NHS’s current budget of in the region of GBP 180bn a year).

Labour has already ruled out ‘easy’ sources of meaningful revenue generation by communicating wide-ranging tax locks, significantly tying its hands on budgetary consolidation. Meanwhile, loose Conservative Party targets of net-debt reduction by the fifth year of any forecasting horizon are expected to stay unchanged. See United Kingdom: rising debt a key long-term rating risk.

Figure 1: Distribution of votes and seat projections according to exit polling

Policies Expected Under a Labour Government…

Incoming prime minister Keir Starmer has also ruled out cuts to investment spending as well as to expenditure on unprotected public services as outlined under the current budget. So the spending-cut route for budget consolidation is off the table. This is although Starmer has already scaled back some of Labour’s more ambitious planning, such as a flagship green-spending pledge.

Much of Labour’s manifesto centres around enhancing economic growth. Although growth will certainly help to achieve budget consolidation, it appears unrealistic to rely just on growth to resolve all of the budget issues, especially in the near term. Scope Ratings is forecasting just 0.8% growth for the UK for 2024 and 1.4% for 2025, followed by 1.5% medium run.

Although potential reforms can support medium-run economic growth, our trend-rate-of-growth estimate of 1.5% a year remains unchanged at this stage, after being trimmed from 2% following the Brexit referendum. This considers the comparative lack of detailed policy in the manifesto including specific policies for achieving stronger growth.

On taxation, Labour has constrained its room for policy manoeuvre by including several tax locks such as on income tax, national-insurance contributions, and value-added tax, in addition to a comparatively vague promise of not raising taxes for ‘working people’. Labour does want to raise more money from business taxes, but this is a comparably-small pot.

Given such self-imposed constraints, the government will need to explore alternative ways of boosting revenue or find efficiencies in the existing budget framework to meet budgetary objectives. Without substantial growth or significant policy shifts, budget consolidation may prove challenging.

… Have to Tackle Rising Debt but the Election Outcome Does Strengthen Political Stability.

Much of the budget-deficit forecast for the next several years is already locked in as it is rising on the back of higher net interest payments. Looking at announced policies, it is unclear exactly how Labour is planning to meet budget goals. Nevertheless, looking back at each party’s track records as concerns budgetary consolidation, Labour’s performance of recent history compared with that of the Conservatives (Figure 2) does not necessarily mean the forthcoming years will prove inevitably an even-worse prospect.

Figure 2: Government balance during times of Conservative- vs Labour-led governments

% of GDP

Consequently, the debt trajectory of the UK remains challenging. Scope Ratings sees general government debt of the United Kingdom rising from 101% of GDP as of end-2023 to nearly 110% by 2029. The election outcome may provide for a degree of strengthened political stability supporting the agency’s AA sovereign credit rating for the United Kingdom but a material strengthening of budgetary policies and the national fiscal framework appears unlikely at this stage. In aggregate, this outlook poses longer-run rating risk although the UK continues to benefit from having among the most-significant global debt tolerance.

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Dennis Shen is a Senior Director in Sovereign and Public Sector ratings at Scope Ratings GmbH, and primary sovereign analyst on the United Kingdom’s rating. Elena Klare, associate analyst at Scope and secondary sovereign analyst for the United Kingdom, contributed to co-drafting this comment.