Some economists want the new chancellor to exploit newly flexible fiscal rules, while others are pressing for a more creative approach such as borrowing from markets, as the government looks for ways to increase public investment without breaking the Treasury’s rules.
With just 12 weeks to go until his first budget, the new chancellor is seeking ways to ramp up public investment while staying within the Treasury’s fiscal framework, and some economists are urging him to be bold. As he settles into No 11 Downing Street, the former defence secretary’s most immediate challenges are day-to-day government spending and how to manage the pressure it creates.
These pressures include the need to pay for Andy Burnham’s VAT cut on energy bills and to fill the £5bn funding gap in the defence investment plan left by his predecessor Rachel Reeves, which helped prompt Healey’s resignation earlier this year. Healey could meet these costs through tax changes — with a bank windfall levy back on the agenda, for example — or by ordering Whitehall departments to penny-pinch elsewhere.
It will help that Reeves bequeathed him significant “headroom” against the rules, which is unlikely to have been completely eroded by the impact of the Iran war. But separately from these short-term pressures, Healey’s boss has made clear that he wants to see a step-change in long-term investment in infrastructure and housing to meet his promise of growth in every postcode.
One way to fund some of that additional investment may be to exploit what Burnham called “any flexibility” in the existing fiscal rules. The chancellor told the Times there was “scope for more and more rapid investment”.
Reeves, now a humble backbencher, made a historic change to the way debt is defined under those rules. It means extra borrowing does not count against the Treasury’s target if the government uses it to acquire a financial asset. That can mean a stake in a company, or a loan, for example.
Reeves used the new definition, known in Treasury parlance as public sector net financial liabilities (PSNFL – pronounced “persnuffle”), to promise a significant increase in public borrowing, but economists have argued for some time that the Treasury could go further.
A thinktank argued that the “PuFins” – public financial institutions, which include the National Wealth Fund, British Business Bank and National Housing Bank – could borrow up to an additional £9bn a year, without breaching the fiscal rules. The Starmer government had already expanded these bodies, giving them additional capital, but the thinktank urged Burnham to go further.
Lord Jim O’Neill, the former Goldman Sachs chief economist who has been mooted as a possible Burnham adviser, has also suggested for infrastructure projects — and suggested creating a new independent agency to assess which should be supported.
Helen Miller, director of the Institute for Fiscal Studies (IFS), cautions that the question of whether there is flexibility within the rules may not be the best one to ask.
People are getting a little bit hung up on the fiscal rules. I think they should stick to them, for credibility reasons. But if the government increases borrowing, it is still borrowing: it will still put up borrowing costs and increase debt, creating more problems for the future.
The real, meatier question is: ‘What is the substantive case for that investment? Is that a good thing to be investing in?’
Some experts argue for a more creative approach, however. Thomas Aubrey, of the Bennett school of public policy at Cambridge University, says:
If you really want to move the needle, which seems to be what Andy Burnham is implying in speeches, then the PSNFL stuff is just not going to be enough.
Instead, he argues that public corporations, such as the , should be allowed to borrow directly from markets.
You could do that with energy, water, large-scale public infrastructure projects, housing,. The UK is one of the only major economies that doesn’t have a deep market for public corporation debt.
Interest rates would be higher than for direct government borrowing, he argues, where there is a Treasury guarantee, but the trade-off would be significantly more scope for long-term investment.
He also argues that the buyers of such debt, including pension funds keen to match their liabilities, would be distinct from those that now buy government bonds, or gilts, so the Treasury would not be cannibalising existing demand.
There is no shortage of capital for projects with detailed costings, credible revenue forecasts and hypothecated income streams,
he argued for the Centre for Cities thinktank.
The UK’s borrowing costs are already higher than many other large economies, and Treasury officials would likely caution Healey against anything that might unsettle the gilt markets.
Aubrey suggests other Whitehall departments have previously shown interest in allowing public corporations to borrow, but it has always been blocked by the Treasury, which would have to agree to classify their debts as separate from government borrowing.
The approach urged by Aubrey chimes with proposals from Burnham-adjacent thinktank Mainstream. The PM’s right-hand woman Louise Haigh also pointed to proposals for public corporations to be allowed to borrow directly, earlier this year.
How to boost investment is just one of a slew of economic questions facing Healey and the prime minister in the next few critical months, but it is perhaps the one most central to Burnham’s projects of devolution and reindustrialisation — and an early test of how radical the new administration will be.
How could Healey fund immediate pressures?
Healey’s first challenge is to handle near-term spending demands while keeping within fiscal rules. That includes paying for Andy Burnham’s VAT cut on energy bills and covering the £5bn shortfall in the defence investment plan left by Rachel Reeves. He could do that through tax changes, including a bank windfall levy, or by squeezing Whitehall departments elsewhere.
What flexibility already exists in the fiscal rules?
Reeves left significant “headroom” against the rules, and that cushion is unlikely to have been entirely removed by the impact of the Iran war. She also changed the debt definition so that borrowing used to acquire a financial asset does not count against the Treasury’s target, under public sector net financial liabilities (PSNFL – pronounced “persnuffle”).
How much more could public institutions borrow?
A thinktank argued that the “PuFins” — the National Wealth Fund, British Business Bank and National Housing Bank — could borrow an extra £9bn a year without breaching the fiscal rules. The Starmer government has already expanded these institutions and given them more capital, but the thinktank said Burnham should go further.
Why are some economists warning against overreliance on the rules?
Helen Miller of the IFS said the issue should not be reduced to whether the rules allow more borrowing. She said governments should stick to the rules for credibility, because more borrowing still raises borrowing costs and debt, creating future problems, and argued that the key question is whether the investment itself is worthwhile.
What more radical borrowing ideas are being discussed?
Thomas Aubrey of Cambridge University’s Bennett school of public policy said PSNFL flexibility would not be enough if Burnham wants to “move the needle”. He argued that public corporations such as the should be able to borrow directly from markets for projects in energy, water, large-scale public infrastructure and housing, saying the UK is one of the only major economies without a deep market for public corporation debt.
Aubrey said those bonds would likely carry higher interest rates than direct government borrowing because they would lack a Treasury guarantee, but he argued they would create much more room for long-term investment. He also said the buyers would be different from those who purchase gilts, especially pension funds seeking assets that match their liabilities, meaning the Treasury would not be cannibalising existing demand.
There is no shortage of capital for projects with detailed costings, credible revenue forecasts and hypothecated income streams,
he said, speaking for the Centre for Cities thinktank.
He added that other Whitehall departments had previously shown interest in the idea, but the Treasury has always blocked it because it would need to agree to classify those debts as separate from government borrowing. Treasury officials would likely still be wary, particularly because UK borrowing costs are already higher than those of many other large economies and the gilt markets could react badly to any perceived risk.
How does this fit Burnham’s wider economic agenda?
The borrowing debate connects directly with Burnham’s ambitions on devolution and reindustrialisation. The approach backed by Aubrey also aligns with ideas from Burnham-adjacent thinktank Mainstream, and the PM’s right-hand woman Louise Haigh pointed earlier this year to proposals for public corporations to be allowed to borrow directly.
How to boost investment is only one of several economic questions facing Healey and the prime minister over the next few critical months, but it is one of the most central to Burnham’s promise of growth in every postcode. It is also likely to be an early test of how radical the new administration is willing to be.
Key Facts
- Healey has 12 weeks until his first budget.
- He faces a £5bn gap in the defence investment plan and pressure over Andy Burnham’s VAT cut on energy bills.
- Reeves’ fiscal rule changes use PSNFL, pronounced “persnuffle”.
- A thinktank says the “PuFins” could borrow an extra £9bn a year.
- Louise Haigh and Mainstream have backed direct borrowing ideas for public corporations.
