Official figures showing the UK avoided a recession at the end of last year provided only a fleeting reprieve for Rachel Reeves, as the chancellor grapples with a sluggish economy, weak business sentiment and an unforgiving budgetary outlook.
The economy grew by 0.1 per cent in the final three months of 2024 after a surprisingly strong gain in GDP in December, the Office for National Statistics said on Thursday, beating forecasts from the Bank of England and others.
Sterling rose immediately after the data release. But analysts warned that the figures would do little to dispel the broader malaise surrounding the economy and its harsh implications for the public finances.
Preliminary forecasts from the Office for Budget Responsibility show Reeves has lost the fiscal “headroom” she had in October, leaving her preparing for a politically painful fiscal correction in the Spring Statement on March 26.
Ministers are already bracing themselves for an even tighter squeeze in Reeves’ spending review, which concludes in June, as she looks to stay within her self-imposed borrowing rules. They state that the current budget — revenues less day-to-day spending — should be in surplus by 2029-30.
“However bad people thought the public finances were going to be, it actually feels worse,” said one government insider close to the haggling over public spending. “No wriggle room at all and even more pressure on spending decisions.”
Reeves alienated the UK’s corporate sector in her autumn Budget with a £25bn increase in employers’ national insurance contributions, which will take effect in April.
She has since attempted to regain trust by embarking on a deregulation drive, deploying the Treasury’s bureaucratic muscle as officials instruct regulators to push for a pro-growth agenda.
At a meeting this week, Reeves reassured the bosses of Britain’s biggest banks that she was intent on lessening burdens on the City of London.
But ministers admit a lot more bridge-building is needed to reassure business — shaken by the NICs rise, a higher minimum wage and incoming workers’ rights legislation — that the government is serious about growing the economy.
“I know it asked a great deal of business,” Jonathan Reynolds, business secretary, said of the Budget tax increase on Thursday. “I don’t underestimate that for a second, and we will never take that contribution, your contribution, for granted.”
Speaking to corporate leaders in London’s King’s Cross, he added: “You are playing your part in fixing this country, in stabilising the public finances, in investing in our people and helping us rebuild our crumbling infrastructure.”
Reeves said before the general election that she wanted to strengthen the Treasury’s “economics ministry” function, looking for growth levers to pull and making it less of a finance ministry devoted to producing a stream of Budgets and other fiscal events.
But her allies admit that Britain’s dismal growth record has emboldened the Treasury to push Whitehall to take tough decisions in areas such as planning reform, approving a new third runway at Heathrow and exposing consumers to more regulatory risk.
The UK’s borrowing costs have eased in recent weeks after hitting a 16-year high in January as a global bond sell-off mixed with concern over the country’s fiscal situation.
Yet big fund managers continue to warn that some changes to tax or spending might be needed for Reeves to keep to her fiscal rules. A significant deterioration in the OBR’s forecasts next month could fuel a renewed sell-off in government debt.
Nicolas Trindade, senior portfolio manager at Axa’s investment arm, said the UK’s big debt burden, higher borrowing costs and weak growth meant Reeves would probably “have to either hike taxes further or reduce spending . . . in order to remain within her fiscal framework. Both options are politically toxic.”
Thursday’s GDP figures came as a modest relief to Reeves. Growth of 0.1 per cent in the final quarter defied economists’ forecasts of a contraction, but the detail of the figures remained sobering.
Growth was fuelled by government spending at the end of the year, while real household spending failed to expand.
Net trade subtracted from the GDP numbers, and GDP per head — which the government has pledged to increase — declined by 0.1 per cent in 2024. It is the first time the metric has dropped for two consecutive years since the 2008-09 financial crisis.
Economists warned that the modest upside surprise in the fourth quarter was unlikely to radically change the tough outlook, and the OBR’s 2 per cent GDP forecast for this year looks well out of line with other projections. The BoE expects growth of just 0.75 per cent.
Although the fiscal watchdog could forecast more robust growth later in the parliament, investors still think the March figures will be crucial.
“I find it hard to see a strong consumer-led recovery in the short term,” said Peter Goves, head of developed market debt sovereign research at MFS Investment Management. “The OBR [growth] projection for 2025 has to come down. I don’t think the fourth-quarter data changes that.”
Lord Jim O’Neill, a former Treasury minister and Goldman Sachs economist, said Reeves needed to be more ambitious about reforming the economy, including in the area of taxation.
Labour’s election manifesto ruled out increases in rates of corporation tax, VAT, income tax and national insurance, sharply constraining the government’s room for manoeuvre on fiscal policy.
The government’s “basic problem is they made a lot of pledges in their manifesto . . . and as a result they are getting themselves increasingly into a pickle”, said O’Neill. “They need to be bolder about their economic agenda. They have four years to demonstrate they are serious about this stuff.”