three tests for the spring statement

The chancellor’s spring statement, due later this month, was supposed to be a quiet affair. Little more than a routine response to updated forecasts from the Office for Budget Responsibility (OBR). Nothing to write home about.

But times have changed. The economy has stalled since the last budget, we may be in the early stages of a destructive tariff war with the US, and defence spending is set to rocket in response to the growing security threat from Russian aggression and Trumpian isolationism.

So there will be nothing routine about this spring statement. The chancellor will, most likely, need to respond to lower growth projections and higher borrowing forecasts that mean she has breached her fiscal rules just a few months after announcing them.

She has two options: try to ride this out and postpone any policy reset to the autumn budget; or prioritise the fiscal rules, on which, she assumes, hangs the government’s credibility, and pencil in tax rises and even tighter spending plans to come in the spending review later this year.

Ultimately, the timing of any fiscal tightening makes little difference to the pain it will cause, or its inevitability. The government faces acute dilemmas over how to kickstart growth, balance its books and fund existing and new commitments. The biggest of these is a pledge to raise defence spending to 2.5 per cent of GDP by 2030, funded, for the moment, by raiding the international aid budget, and to get to three per cent in the next parliament.

To free up cash for the military there is alarming talk of raiding funding for the National Wealth Fund and Great British Energy and other sources of funding earmarked for the green transition. But cutting funding for clean power is self defeating. The Treasury’s Net Zero Review found that damage to UK capital stock and higher temperatures caused by climate change will decrease productivity, jeopardising the economic growth we need.

A major reason the public finances are so tight is that the economy (measured by real GDP per capita – the only meaningful measure of growth since it strips out the effects of inflation and population growth) has stagnated over the 15 years since the 2008 financial crisis, starving the government of tax revenues.

So a key test for spring statement measures should be whether they raise productivity and real GDP per capita and help the government pursue its missions, not plug short term gaps in the public finances.

Claims that diverting money from net zero to defence will boost the economy should be treated with caution. There are opportunity costs in industrial strategy: by backing Industry A, there is less money for Industry B. Given these resource constraints, it makes sense to favour sectors where we have a clear comparative advantage. Defence industries, bar aerospace and some high technologies like guidance systems, are not things we are particularly good at, whereas we have a strong comparative advantage in many clean power sectors.

Higher defence spending may be necessary for national security. But, if it comes at the expense of the drive for clean power (which itself contributes to security by enhancing our energy independence), then the UK will sacrifice future growth, undermining the ability to sustain these policy commitments.

There are other alternatives which the government is probably considering. It could simply raise taxes, perhaps branding this patriotically as a ‘security levy’, akin to the one per cent rise in National Insurance imposed to pay for the costs of Covid. But with the tax burden already at a 70 high year high, and businesses cutting jobs after the £25 billion rise in employer national insurance in the last budget, it may be hard to take more money out of the economy without hitting private investment or reducing the standard of living.

The elephant in the room until now has been welfare spending. Under increasing fiscal pressure, the government has turned to the welfare budget which is expanding rapidly from increased incapacity and pensions claims.

The supposedly routine spring statement looks like becoming a major event where the chancellor will grapple with some very difficult choices. The challenges are immense, and the trade-offs will be hard. But there are good and bad choices to be made here.

These are our three tests for the spring statement.

1. Recommit to green growth
Recent rhetoric about the costs of the green transition ignores the fact that many of the most promising economic opportunities of the next decades will be in clean energy and transport. Recent CBI analysis shows the UK’s net zero economy now generates £83.1 billion in gross value added (GVA) and has grown ten per cent in the past year. Net zero businesses support the equivalent of 951,000 full time jobs. These jobs are 38 per cent more productive than average, meaning they are typically better paid too.

Far from being a distraction from strengthening the economy, the green transition is the core economic strategy of our hard-headed economic rivals. China hit its target for 1,200GW of solar and wind power last year, six years ahead of schedule, and sales of electric vehicles and hybrids there are forecast to reach 100 per cent of the market by 2030. If it fails to signal its commitment to net zero investment, the government would risk sending out the wrong signals to global investors looking to tap into these opportunities.

This could mean missing out on a potential £1 trillion global market for net zero equipment and services, estimated by McKinsey to be available to UK businesses by 2030, given a supportive policy environment. Investment firm Carlyle predicts that the threat of tariff wars and global instability will channel more investment into reliable, local power sources such as renewables.

2. Guarantee the farming budget
Farming is an important part of the economy which delivers benefits for society, nature and rural communities. It was positive to see the farming budget maintained in the autumn budget, but it is important that this is not reversed in the coming spending review. However, parts of it could be redirected to deliver public goods like protecting farmers and delivering greater biodiversity. Spent well, and backed by well enforced legislation, support for farmers can deliver benefits far in excess of that cost, for example by supporting restoration of peatlands and riparian habitats to reduce flooding and water quality issues downstream.

Much of the money needed for this could come from taxing junk food, which would also reduce health spending to treat obesity. The soft drinks industry levy led to a 35 per cent reduction in the sugar content of soft drinks with only a small impact on sales. Given the pressures upon the public purse, raising private finance will also be crucial. This can be achieved by giving the National Wealth Fund a stronger mandate to invest in nature and a circular economy based on reuse of resources, and by regulating businesses to invest in the natural world on which they depend for their profits.

3. Deliver welfare reforms that help people find good jobs
The bill for disability and incapacity benefits is projected by the OBR to rise to £100 billion a year by the end of the decade. However, the government should be cautious about cutting access to benefits from a purely cost saving viewpoint. Although hardly generous, they are a lifeline for many people. Ministers should recognise that the sharp rise in youth and working incapacity age benefits has been driven partly by the after effects of Covid lockdowns, long Covid and also by a lack of long term attention to people’s health and wellbeing, caused, for instance, by an under-regulated food industry and lack of access to green spaces for poorer communities.  

Another critical issue is a paucity of investment in training and labour market activation policies. If people on long term benefits are pushed off these and into the labour market, they may need help getting a job. This may entail coaching, workplace adjustments, training and help with their job search. However, the UK spends considerably less on active labour market policies than other European countries.  

Inadequate income can itself act as a barrier to finding work, implying that that a poorly targeted squeeze on benefits could prove self-defeating. Instead, the government could reduce the overall welfare budget by providing claimants with the skills training and conditions that enable them to take up good jobs.  This will help raise employment and, through better skills, productivity, boosting economic growth. Skills shortages are rife throughout the economy and are particularly severe in the net zero sectors with potential for significant growth.

Without tailored support for those who can work, there’s a risk of simply making the poor poorer without improving rates of employment. A fair and rational policy of restructuring welfare must aim primarily at addressing these shortages and solving the root causes of why people are out of work, rather than simply ‘saving money’, a short term illusion that is both self-defeating and ultimately costly.            