Britain’s public finances delivered a rare piece of good news to the chancellor this week, when government borrowing fell to a four-year low in March. But business leaders and economists are already looking at a grim picture, warning that the escalating conflict in the Middle East could quickly unravel Rachel Reeves’ carefully crafted financial plans.
According to figures released on Thursday by the Office for National Statistics, the government borrowed £12.6bn last month, the lowest amount for March since 2022 and £1.4bn less than the same month last year. The decline is due to a sharp drop in debt interest expense and a $100 billion deduction in tax receipts.
For small and medium-sized businesses, which continue to bear the brunt of frozen income tax, higher employer national insurance and stubborn inflation, the figures offer only cold comfort. Although the Treasury is close to meeting its borrowing targets, the improvement owes little to restraint from Whitehall and more to the retail price index.
Despite the monthly improvement, the March figure came in above the consensus forecast of £10.4bn from City economists. Borrowing in the full financial year reached £132bn – £700m according to the Office for Budget Responsibility, but is still the sixth highest annual figure since records began in 1947. However the figure was almost £20bn less than last year.
The headline reduction was influenced by a dramatic drop in debt interest costs, which fell to £3.2bn in March from £13bn in February and £4.5bn in the same month last year. Much of the UK’s debt stock remains linked to the retail price index, a measure that economists have long dismissed as outdated. The sharp slowdown in the RPI between December and January led to lower payouts for index-linked gilt holders.
Tax revenues also rose significantly. Public sector receipts rose by £5.4bn in the year to pass the £100bn mark in March, boosted by higher income tax and national insurance takeovers. Public spending rose modestly, rising by £2.9bn to £91.6bn.
Tom Davies, chief statistician at the ONS, said the figures showed that “although spending has increased this financial year, this has been largely offset by a rise in receipts,” noting that borrowing in March was 10 per cent lower than last year.
However, optimism was dampened by warnings that last month’s storms could recede quickly. Economists fear that the war in the Middle East is already affecting inflation and Britain’s growth forecasts, threatening to squeeze the chancellor’s room to push ahead.
“Continued increases in energy prices will put double pressure on public finances,” said Martin Beck, chief economist at WPI Strategy. “It is true, higher oil and gas prices may increase revenues in the North Sea, while strong inflation may increase VAT receipts and income tax revenues through frozen borders. However, those benefits may be outweighed by weak economic growth and high spending pressures, including rising social costs, rising debt interest payments, and possible support for households and companies with energy.”
Figures published earlier this week showed consumer inflation rose to 3.3 percent in March, from 3 percent in February. Some economists now expect it to reach more than double the Bank of England’s 2 percent target later this year, a development that will increase the government’s debt interest rate and pile new pressure on already stretched SMEs.
The Bank’s nine-member monetary policy committee meets next Thursday and is expected to hold the base rate at 3.75%. A number of analysts, however, now believe that Threadneedle Street may be forced to raise prices later in the year to combat falling inflation from the Middle East. Updated forecasts of inflation, growth and unemployment will accompany the decision.
Debt as a share of gross domestic product stood at 93.8 percent, up 0.6 percent year-on-year and returning to levels not seen since the 1960s.
The picture can quickly deteriorate. The Resolution Foundation warned in a report this month that a further escalation of the Middle East war could wipe £16bn of the £23.6bn capital Reeves outlined in his March spring statement. Under its fiscal rules, the chancellor must balance daily spending and tax receipts over a five-year period.
Ellie Henderson, economist at Investec, said: “A rise in energy prices is likely to dampen the outlook, as inflation increases the cost of servicing index-linked gilts, and forecasts of slower growth dampen potential tax receipts growth.”
The Ministry of Finance, on the other hand, is keen to seek credit. James Murray, chief secretary to the Treasury, said: “The deficit is low [by] £19.8bn due to our debt relief programme. In a changing world the decisions we make are the right ones to keep costs down, recover our energy and reduce borrowing and debt.”
For British businesses, and especially SMEs that make up the bulk of the country’s employers, statistics emphasize an unpleasant reality: however negative March numbers appear, the margin of error is rarely small.
