From Sturdy Ship to Sinking Vessel: Rachel Reeves' Herculean Task
The legacy of austerity from 2010-2019 has left UK's public finances in disarray, complicating the new Labour government's efforts to stabilize the economy, deal with debt and improve living standards
In 2010 the UK was fiscally still a sturdy ship, but today rot has set in from bilge to boom. Labour MPs need to rally behind Reeves as she navigates the turbulent waters left by her predecessors.
The problematic legacies of the 2010-2019 austerity years
For those old enough, the Conservative government which came to power in 2010 pledged to “reduce the deficit and create growth”. And the backdrop at the time was suitably severe to merit a deficit reduction and pro-growth strategy.
Indeed the outgoing Labour government of the time and the incoming Conservative-LibDem coalition government both actually agreed that the deficit was unsustainable.
The reason was that the UK’s total deficit amounted to 10 per cent of GDP, or £160 billion. A reality which had been an unprecedented level in modern times. The divergence was the coalition vow to cut the deficit faster than Labour.
I took the IFS graph (‘figure 4.2’, see below) to illustrate how the coalition government brought down the deficit. It shows how Cameron-Osborne leant heavily on public spending cuts as opposed to tax rises to bring down the deficit.
The duo’s original plan had been to achieve an 80 per cent spending cuts to 20 per cent tax rises. However by 2015 that plan was dispensed with in favour of one geared more heavily towards spending cuts1.
One of the consequences of this was a real-terms cut to spending unprecedented in modern history. For example, under Cameron’s premiership non-investment spending fell from 43 per cent to 38 per cent.
In short, the 2010-2019 period witnessed an approach heavily reliant on spending cuts and biting austerity. This caused some down-stream legacies which makes Rachel Reeves life much harder today in 2024 as she faces particularly weak public finances.
One such example of an austerity-era legacy are the scars left on low income growth. Reeves has much less wriggle room today to remedy our particularly weak public finances as a result.
And just for clarity, median incomes grew by just 6 per cent between 2009–10 and 2022–23. Prior to the 2008 financial crash and the resultant Great Recession we could have expected growth of 30 per cent in a 13-year period.
That right there gives you a picture of how badly living standards have languished for more than a decade in the UK, prior to this new Labour government.
The Institute for Fiscal Studies (IFS) also reviewed the Conservative economic record, and they add an important detail we should equally bear in mind.
In their June 3rd publication the IFS concluded that the Conservatives presided over the harshest cuts in public spending since Churchill succeeded in rallying the nation to defeat Hitler; adding the changes introduced over the Tory period in office benefited the older generations at the expense of younger ones and at scale.
“The period from 2010 to 2019 saw the biggest and most sustained cuts in public spending since World War II. These changes accelerated a trend which saw older generations and those with substantial assets doing far better than younger generations.” - ‘The Conservatives and the Economy, 2010–24’, IFS, Carl Emmerson, Paul Johnson, Nick Ridpath, Published on 3 June 2024
So when Rachel Reeves earlier today pledged to end the universality of the winter fuel allowance, she had justification.
Money for rich pensioners as public services crumble is no longer an option. Especially when in 2024 she must wrestle with the reality that the austerity 2010-19 era hit the younger generations the most.
Rachel Reeves has made the correct decision to end the universality of the winter fuel allowance, with the important caveat that poorest pensioners (i.e. those entitled to pension credit) will continue to get the winter fuel payment.
Going forward the task for Labour MPs is to keep the onus on this Labour government to ensure that those entitled to pension credit are educated, informed, aware, and able to secure the support they require.
Why public finances particularly weak today
When the new Labour Chancellor Rachel Reeves insists that her financial inheritance is worse than she imagined, hyperbolic it may be but there is a solid kernel of truth to her words.
The core accuracy at the heart of a narrative is that the previous Tory administration has bequeathed her a combination of low growth and high borrowing costs.
As of today, the United Kingdom faces a combination of growth unhelpfully well below pre-financial crisis levels. But this is coupled with borrowing cost and interest payments on the national debt, which makes it more challenging to pull government spending under control.
Rachel Reeves has an awful task ahead of her. But don’t take my word for it, just as UK economist at Citi Benjamin Nabarro. He has informed the Financial Times that the “structural position” faced today is worse than in 2010. This is despite the fact that the headline budget deficit back then was much higher.
And he has a point. Not least since the overall overall debt-to-GDP ratio was lower in 2010, and funding costs were far lower too. Remember the Bank of England at the time slashed rates to effective zero levels and simultaneously bought up hundreds of billions of pounds worth of government debt.
If we take a look at the Financial Times graph (see below) we can see the incredibly problematic combination of low growth and biting debt interest spending. If we compare 2010 (when David Cameron took office as Prime Minister) with today regarding interest rates the story is clear. In 2010 the official interest rate was just 0.5 per cent. As of writing this article it sits at 5.25 per cent. That means paying for our debt is a much more expensive proposition.
Rachel Reeves is not over-egging the proverbial pudding when she condemns the economic inheritance as being deeply troubled. As she prepares for her first budget the reality is the UK must grow at three times this year’s expected rate if the new Labour government is to avoid a hole in the public finances. That is according to the International Monetary Fund (IMF).
Bear in mind that right now our UK debt burden is continuing to grow. An IMF Selected Issues Paper reveals that if Reeves is to stabilise our UK public debt she must make a significant improvement in the difference between government spending and revenue, excluding interest payments (for those who don’t know, this is called the ‘primary balance’ or the difference between the amount of revenue a government collects and the amount it spends on providing public goods and services)
The IMF paper is blunt to the point of chilling:
“Assuming revenue stabilizes in FY2028/29 at the level projected by IMF staff (40.8 percent of GDP), public debt does not stabilize over ten years, reaching 101.3 percent of GDP by FY2034/35. Stabilizing debt will require the primary balance to be 0.8–1.4 ppts of GDP higher per year (on average after FY2024/25),” - IMF Selected Issues Paper: Public Spending Pressures in the UK: United Kingdom’ by Andrew Hodge
Give us the bottom line Dean…
So what happens if Rachel Reeves fails to secure GDP growth of the levels the IMF warns is necessary?
Then we all face extra tax rises or spending cuts at scale. This is despite the backdrop of a UK tax burden being at a 70-year high. And this is despite the 2010-2019 austerity era legacy of massively squeezed living standards.
The choices facing Rachel Reeves are incredibly difficult and there are few good options.
After a decade of intermittent spending squeezes and low income growth under the Tories there is very limited room for manoeuvre on either tax or spending. To quote Benjamin Nabarro again, “In 2010 the UK was, fiscally speaking, a sturdy ship in incredibly stormy waters…In the period since, the rot has set in.”
The bottom line? The UK economy is in a worse state now than even the immediate aftermath of the 2008 financial crisis and Great Recession. So I for one will cut Ms Reeves a fair bit of slack in the days, months and years ahead.
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Carl Emmerson and Gemma Tetlow, ‘UK Public finances: from crisis to recovery’, Fiscal Studies, 36 (2015), 555–77
You would think she would do the obvious and tax wealth. The SNP have done it without any of the doom predicted by the media.