Rachel Reeves may be stepping up to deliver her first major Spending Review as Chancellor next Wednesday, but behind the fanfare of announcements and pledges lies a daunting reality: she’s facing some of the toughest fiscal choices in years. While allocating public money might appear generous on paper, the real challenge will be how to raise it — and that’s a battle she’ll likely face later this year.
Next week’s Spending Review is expected to give the impression of increased investment in key areas such as health, defence, and public infrastructure. But the truth is, the overall spending envelope was already outlined back in March during the Spring Statement. Then, the Chancellor committed to government expenditure averaging £1.4 trillion annually over the next five years — that’s about 44% of GDP. It’s more than the pre-pandemic average of 40%, but it’s also not expected to rise in this review.
Meanwhile, tax receipts are expected to bring in just £1.3 trillion per year, or 41.5% of GDP. That shortfall means the government is preparing to borrow roughly £90 billion annually — equivalent to 2.8% of GDP — to plug the gap.
What this week’s review will determine is not how much is spent, but where it goes. And that, in itself, presents a political and economic balancing act. The NHS, already commanding the lion’s share of government spending, will almost certainly see increased funding, as will defence — not least in light of growing global instability. But that leaves little room for boosts in other critical areas such as education, welfare, and local government.
What the Spending Review won’t tackle is the looming likelihood that the Chancellor will need to find more money later this year. Recent public sector pay settlements, talk of reinstating certain winter fuel payments, and calls to scrap the controversial two-child benefit cap are all exerting upward pressure on the Treasury’s future outlays. Collectively, they could increase annual spending by £8 billion within five years.
Add to that the impact of the government’s stricter migration policies — potentially reducing the number of working-age taxpayers — and the rising cost of government borrowing, and the shortfall could widen by another £10 billion. That brings the potential funding gap to £18 billion.
But the situation could become significantly worse. Should the government follow through on its ambition to increase defence spending from 2.5% to 3% of GDP by 2030, the hole could widen to £36 billion. And if the Office for Budget Responsibility downgrades its productivity growth forecasts — meaning slower economic growth and, consequently, weaker tax revenues — that gap could hit a staggering £46 billion.
To stick to her own fiscal rules while maintaining a buffer against future shocks, Rachel Reeves may have no choice but to take action in the autumn Budget. But none of the options are politically attractive.
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She could slash other areas of government spending, but this would clash with Labour’s promises to boost public services. Alternatively, she could tinker with the fiscal rules to allow for more borrowing — a move likely to concern markets and risk pushing up the cost of government debt. Or, most contentiously, she could raise taxes.
Yet Labour campaigned on a clear promise not to increase income tax, VAT or National Insurance for employees. If the Chancellor is forced to break that pledge, she risks political fallout — not least among newly won voters.
Most likely, she’ll choose a mix of all three approaches. Cuts, some stealthy rule-bending, and a handful of tax rises spread across different areas.
What’s certain is this: the decisions Reeves will face this autumn will make next week’s Spending Review look like the easy part.
