You’re probably tired by now of hearing all about “black holes”.
It’s one of those phrases trotted out by journalists in an effort to make economic policy sound a little more interesting. And in some senses it’s a massively misleading image.
After all, when people talk about fiscal holes, what they’re really talking about is something rather prosaic: the amount of money it would take for the chancellor not to break her fiscal rules.
Those fiscal rules are not god-given, after all. They were confected by the chancellor herself. Missing them will not really result in Britain sliding into infinite nothingness. Even so, whatever you choose to call the dilemma she’s faced with right now, it’s certainly quite a big deal.
And understanding this helps provide a little context for the extraordinary events of the past few days, with markets sliding in the wake of Ms Reeves’ teary appearance at Prime Minister’s Questions.
Following that moment, the yield on UK government debt – the rate of interest we’re being charged by international investors – suddenly leapt higher. Granted, the jump was nothing like what we saw in the wake of Liz Truss’s mini-budget. And those yields dropped down after the prime minister backed the chancellor.
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Even so, they underline one very important bit of context. The UK has become something of an outlier in global debt markets. For years, the yield on our benchmark government bonds was more or less middle of the industrialised-world pack. But since 2022’s drama, it has hovered unnervingly high, above every other G7 nation.
That speaks to a broader issue. Britain might not have the biggest deficit in the G7, or for that matter, the highest national debt. Others (most notably France, and to some extent, too, the US) face even more desperate fiscal dilemmas in the coming years. But markets do still seem nervous about Britain.
Perhaps that’s because of what they (and we) all endured in 2022 – when British gilt markets stepped briefly over the precipice, causing malfunctions all around the financial system (most notably in obscure parts of the pensions investment sector). But it also owes something to the fact that the chancellor’s own fiscal plans are sailing worryingly close to the wind.
Reeves made fiscal rules matter
The main piece of evidence here is the amount of leeway she has left herself against her fiscal rules. As I said at the start, there’s nothing gospel about these rules. But having created them and banged on about them for a long time, even those of us who are a little sceptical about fiscal rules would concede that breaking them is, as they say, not a good look.
Back in spring, the Office for Budget Responsibility thought the chancellor had about £9.9bn in leeway against these rules. But since then, she has u-turned on both the cuts in winter fuel payments and on personal independence payments. That reduces the £9.9bn down to barely more than £3bn.
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But the real issue isn’t just these U-turns. It’s something else. The stronger the economy is, the more tax revenues come in and the more her potential headroom against the fiscal rules would be. By the same token, if the economy grows less rapidly than the OBR expected, that would mean less tax revenues and an even bigger deficit.
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And if you compare the OBR’s latest forecasts with the current average of forecasts among independent forecasters, or for that matter, the Bank of England, they do look decidedly optimistic. If the OBR is right and everyone else is wrong, then the chancellor “only” has to fill in the hole left by those U-turns. But if the OBR is wrong and everyone else is right, things get considerably more grisly.
Even a small downgrade in the OBR’s expectations for productivity growth – say a 0.1 percentage point drop – would obliterate the remaining headroom and leave the chancellor with a £6bn shortfall against her rule. Anything more than that (and bear in mind, most economists think the OBR is out by more than that) and she could be £10bn or more underwater.
Now, there are plenty of very reasonable points one could make about how silly this all is. It’s silly that so many people treat fiscal rules as tablets of stone. It’s silly that government tax policy from one year to the next seems to hinge on how right or wrong the OBR’s economic forecasts are.
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Yet all this stuff, silly as it might all seem, is taken quite seriously by markets right now. They look at the UK, see an outlier, and tend to focus more than usual on black holes. So I’m afraid we’re going to be talking about “black holes” for quite some time to come.
