By Geoffrey Smith
Investing.com -- The U.K. government announced a £55 billion (£1 = $1.1845) budget package on Thursday, in an effort to fill a yawning gap in public finances created by the country's slide into recession.
Chancellor of the Exchequer Jeremy Hunt said the measures will be split roughly evenly between tax increases and spending cuts.
The new budget represents a desperate attempt to restore the U.K.'s credibility, both with the public and with global financial markets, after a chaotic interlude during the brief tenure of Liz Truss, who had tried to revive growth with a massive suite of unfunded tax cuts in her brief stint as Prime Minister. Hunt acknowledged that the measures tread a fine line between guaranteeing sound money and squeezing the life out of the economy with higher taxes.
The consolidation package "means that inflation and interest rates end significantly lower" over a five-year timeframe than would otherwise have been the case, Hunt said, citing new forecasts from the Office for Budget Responsibility.
However, they will not spare the U.K. a sharp recession and a steep fall in household incomes, not least because the government will pare back its 'Energy Price Guarantee' from April, allowing average household energy bills to rise by another £500 to £3,000.
The OBR's forecasts suggest U.K. GDP will contract by 1.4% next year, under the influence of the after-effects of the pandemic and what Hunt called "a made-in-Russia energy crisis", before returning to growth in 2024. Unemployment, meanwhile, is set to rise to 4.9% of the workforce from under 4% currently.
"Britain’s recession likely will be the deepest among the major advanced economies, given that no other country has moved so soon to raise taxes and withdraw energy price support," Pantheon Macroeconomics' Samuel Tombs wrote in a note to clients.
The pound fell initially on the news before recovering to $1.1845 by 06:53 ET (11:53 GMT). U.K. government bonds underperformed the rest of Europe, with yields rising by 8 basis points at the short end of the yield curve. Longer-dated yields were largely unchanged, however, suggesting that Hunt's assurances on the need to bring inflation down had been broadly accepted by markets.
While Hunt spoke of "difficult decisions", he confirmed that the so-called 'triple lock' on pension spending would remain intact. He also said the national living wage will rise by over 9% next year to offset this year's inflation shock, while the cap on benefits will also rise in parallel. Hunt also announced an extra £3.3B in spending for the National Health Service in each of the next two years, which he said would ensure the NHS can fulfill its essential duties.
He also put off committing to higher defense spending, saying that the government would need to complete an internal review of the U.K.'s defense priorities first. He stressed that defense spending will remain above 2% of GDP, meeting the guideline for NATO countries.
Torsten Bell, director of the Resolution Foundation think-tank, tweeted that the budget largely put off true consolidation until after the next election, which is due in 2024.
As indicated by leaked reports earlier in the week, the package included cuts to the threshold for the top rate of personal income tax, and to the tax-free allowance on dividend income and capital gains tax.
They also included a new 45% windfall tax on the excess profits of electricity generators. Shares in SSE (LON:SSE) and Drax (LON:DRX) had fallen over 3% in response, while Centrica (LON:CNA) stock fell 1.1%.
The government will also increase the levy on windfall profits in the oil and gas sector, to 35% from 25%, and extend it through April 2028. Shares in BP (LON:BP) and Shell (LON:RDSa) shrugged off the news, having already discounted the move.
Equally, Hunt confirmed that the government will go ahead with its plans to back the construction of a new nuclear power plant at Sizewell, dispelling rumors that the project would be sacrificed as part of a scramble for savings.