Rishi Sunak and the Treasury has more to spend to help with living costs – so why is he refusing to do it?

Faced with a once-in-a-lifetime shock to Britain’s living standards and warnings that 1.3 million people are set to be thrown into absolute poverty, Boris Johnson’s cabinet met this week to discuss a raft of emergency plans.

In a scene worthy of The Thick of It, ministers are said to have held a “blue sky” session in which they came up with measures so obviously inadequate they would be laughable if the situation facing millions of British people this year wasn’t so grave.

Top of the list was scrapping the need for motorists to get an MOT every 12 months, and increasing the number of children each childminder is allowed to look after at once.

What lays behind this lurch into the absurd is – as so often in the recent history of British government policymaking – the Treasury’s desperation to rein in spending.

Rishi Sunak’s department is insisting that any new measures to help solve the cost of living crisis must not actually cost the government any money. It argues that there is no money left.

So is the Treasury right?

There are plenty of reasons to be sceptical. At the spring statement last month, official forecasters told the chancellor that he had £28bn of “fiscal headroom”, which is Treasury speak for “spare cash”.

Importantly, that is not a hard and fast limit. If it needs to, the government can spend pretty much whatever it wants, as the experience of the Covid pandemic shows.

Twenty-eight billion pounds was how much Sunak could spend while still meeting his own self-imposed rules which are designed to keep the public finances under control.

The chancellor chose to spend only £10bn on extra support, despite warnings that low-income households in particular needed a much bigger package of support to avoid immense hardship this year.

So Sunak still had around £18bn to play with. This week, it was revealed that the public finances were around £16.7bn worse than had been forecast, mainly because the government had spent a lot more money than it thought.

That was a “pretty huge error”, says James Smith, deputy director of the Resolution Foundation think tank. It was also likely to have been embarrassing for a chancellor who has been desperate to portray himself as fiscally responsible.

Smith believes it may explain why the Treasury is now taking such a hard line on new spending, despite clear and obvious reasons not to.

“The big picture has been that the deficit is coming down much faster than expected, the economy recovering quicker and, most of all, it is much more tax-rich. The chancellor has a big chunk of headroom against his fiscal rules.”

Yet still he wants to keep tight control of the purse strings. Why?

The government warns that it has to be cautious because rising prices are not just hurting household budgets they are wrecking the public finances too.

A significant chunk of the public debt is linked to inflation, meaning that when prices rise, interest payments on government debt go up.

On paper, the government paid a record £69.9bn in debt interest last year, and the amount is forecast to hit £83.3bn in 2022-23.

That prompted Simon Clarke, chief secretary to the Treasury, to write on Wednesday that it was “vital we don’t burden the next generation with ever-increasing debt”.

He pointed out that £83bn is more than the budgets of the Home Office, schools and Ministry of Justice combined.

This sounds scary, but, says independent economist Julian Jessop, it is a misleading way to portray the numbers.

Around half of last year’s debt interest bill (£34.7bn) only has to be paid back when the debt matures, even though it is accounted for in this year’s figures. The average maturity on this debt is more than 18 years.

“It’s not comparable to day-to-day spending on government departments. We only have to pay it out over a very long period,” says Jessop.

He argues that a larger bill for debt interest is not a reason to cut public spending.

“We have £2.2 trillion of government debt [in total]. You could possibly save a few tens of billions off that through austerity but it will make no difference to your vulnerability to higher inflation. What you need to do is get inflation down.”

He warns that tax increases or spending cuts are likely to be counterproductive because what is needed is a strong economic recovery.

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“That’s the best way to get the public finances under control. The government should be focused on reducing inflation and boosting growth.

“Neither of those are helped by raising taxes or cutting benefits for the most vulnerable.”

There is a more fundamental problem with the Treasury’s approach, says Stephen Millard, deputy director of the National Institute for Economic and Social Research (Niesr).

He argues that the fiscal rules – such as reducing public debt over the course of a parliament – are arbitrary, and chancellors frequently break them, or just change them when they become inconvenient.

They are supposedly intended to give the government credibility, so that people trust it to be responsible with money. That credibility has been undermined repeatedly, yet the government is still able to borrow at extremely low interest rates, indicating that people still trust it will pay the money back.

Even on their own terms the fiscal rules have failed: public debt has remained stubbornly high.

In any case, now is not the time to stick slavishly to arbitrary rules, Millard and others argue.

“The whole idea of having fiscal space is that when you have a bad shock, you’re able to respond to it by spending extra money, increasing benefits, cutting taxes, or whatever.”

“Constraints on spending need to be there when times are good, but when you’re faced with a shock, good fiscal policy responds to that shock,” adds Millard.

The UK is now facing the biggest shock to living standards since at least the 1950s and yet the government, at the orders of Rishi Sunak, is ruling out any of that spending.

Millard says: “In practice when governments have felt the need to respond to shocks, they have gone ahead and done it.”

The government’s approach is a political choice dressed up as an economic necessity.

Most importantly, the benefits of adhering to any spending constraints need to be weighed against the costs.

In the current situation, the cost of failing to act is clear, imminent and massive: many more people will be thrown into destitution, millions will struggle to heat and power their homes.

On the other side of the ledger, the benefits to reining in government spending are distant, unclear and abstract: the government maintains its reputation for fiscal prudence and keeps (historically low) borrowing costs down.

“The biggest risk facing us now is the risk of a recession,” says George Dibb, head of the Centre for Economic Justice at IPPR think tank.

“If we fail to support household budgets today, families and individuals will cut back on spending; that pulls demand out of the economy and really does risk pushing us towards a recession.”

The signs that this is happening are multiplying. Consumer confidence is plunging and retail sales are falling.

So what should be done? Near-unanimous consensus is building that government must provide significant, targeted support to people on the lowest incomes.

“The only person that can do that is Rishi Sunak,” says Smith. “Not only has got the fiscal room to do it, it is going to be extremely painful for people if he doesn’t.”