John Healey faces bond market test

John Healey may have been U.K. finance minister, or chancellor, for just 100 days, but he has already achieved something his predecessor, Rachel Reeves, did not.

The build-up to her annual budgets was scarred by weeks of speculation about which taxes she would raise and, even though some of those increases never materialized, the damage to business and investor confidence was almost as great as if they had been imposed.

By contrast, drawing on his experience as defense secretary, Healey has imposed tight security over preparation of his inaugural budget on Wednesday, with access to documents allowed on a strict “need to know” basis.

The build-up has seen much less rumor and speculation. Reeves indicated before last year’s budget that she might break her party’s manifesto commitment not to raise income tax. With Healey, such kite-flying has been non-existent.

So far, so good: but it will not be plain sailing from here.

Reeves gave herself last year a headroom — the buffer available before the government would breach its fiscal rules — of £24 billion ($32 billion). But higher government borrowing costs have eroded this to as little as £10 billion.

The fiscal rules require day-to-day government spending to be funded by tax revenues and debt to be falling as a share of gross domestic product.

At the same time, Prime Minister Andy Burnham has made plenty of spending commitments. The latest, on Monday, was a £432-million plan to tackle homelessness and people sleeping on the streets.

Other likely giveaways include targeted support for poorer households with energy bills and a higher tax-free allowance for low-income pensioners.

Amanda Tickel, tax and trade policy leader at business services firm Deloitte, said Healey must explain how he will pay for these and other modest tax cuts already signaled, including lower business rates — a tax on commercial properties — for pubs and small retailers.

“The biggest expectation I’ve got in terms of tax cuts will be the extension of the fuel duty relief,” she told CNBC.

“That should or could cost over £2 billion, so that will need funding as well.”

The biggest challenge by far will be defense spending.

Healey must set out how the government plans to increase spending on defense to 3% of GDP by the end of the decade, the issue over which he resigned from Keir Starmer’s government in June, contributing to the former prime minister’s demise alongside a local elections debacle for the governing Labour party.

While Healey is expected to let a reduction in his fiscal buffer do most of the work on the basis that the Iran war has blown a hole in his accounts, tax increases are still likely.

The U.K.’s banks, whose profits have been boosted by interest rates remaining higher for longer than expected, are set to be targeted, although this is not without risk.

JPMorgan CEO Jamie Dimon has indicated he might rethink the bank’s new tower in London, earmarked to house half its 28,000 U.K. employees, if taxes rise too much.

Healey could instead target U.K. lenders by reducing their ability to set losses racked up during the global financial crisis against future tax bills.

The gambling sector is also expected to be hit, despite warnings it may have to cut jobs in response. Flutter Entertainment, owner of Paddy Power and Betfair, cut 1,400 U.K. and Ireland jobs earlier this month in response to recent tax increases.

Yet harder decisions are likely to be kicked down the road.

Long-awaited proposals to tackle the youth unemployment crisis and spiraling welfare spending will not be published until later this year.

Next year’s public spending review — when the government sets future budgets for departments and public services — could be even harder for lawmakers who appear averse to any cuts.

Amid this limited room for maneuver, Healey still plans some pump-priming, it seems.

The Financial Times reported at the weekend that the National Wealth Fund and British Business Bank, respectively the state-backed infrastructure bank and government-owned business lender, will be handed £20.4 billion.

This exploits a loophole in the government’s fiscal rules, as money given to these institutions does not count as extra borrowing.

The other big eye-catching move will be in shifting more control over tax and spending from the central government to local authorities.

Michael Saunders, senior advisor at Oxford Economics and a former member of the Bank of England’s rate-setting Monetary Policy Committee, told CNBC the budget could give local mayors and regional authorities more control over public spending and potentially allow them to retain some of the tax revenues generated if their economies grow faster.

“It’s about redistributing spending between regions and changing who controls the decisions over spending, rather than increasing the overall pot.”

He cautioned it would do nothing for growth “in the next year or two”.

With the national debt having just risen above £3 trillion, taking it uncomfortably close to the size of its GDP, the government is in no position for largesse.

Government bond investors want cuts to public spending, less borrowing and business-friendly measures aimed at boosting growth, such as reversing some of the payroll tax increases introduced under Reeves.

They will be disappointed.