OECD boosts Reeves with call to rewrite ‘short-termist’ fiscal rules

Unlock the Editor’s Digest for free

Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.

The UK should rewrite “short-termist” fiscal rules to allow higher public investment that would drive growth, the OECD’s chief economist has said, in a boost to UK chancellor Rachel Reeves ahead of her Budget next month.

Alvaro Pereira said on Wednesday that the UK’s fiscal rules, while intended to keep government debt in check, could be counter-productive.

The British rules are based on a rolling five-year horizon, which Pereira said gives ministers an incentive to delay cuts in day-to-day spending but makes it hard to justify long-term investments.

“The UK’s existing rules may tend to short-termism and the potential deterioration of the public finances in the long run,” he told the FT.

“Part of the problem identified in the UK is the need to improve infrastructure and improve productivity,” he added.

The warning from the OECD, a think-tank for 38 rich economies, could help Reeves make the case for a rethink of the country’s fiscal framework when she presents the Labour government’s first Budget next month.

The chancellor has adopted a fiscal rule that requires day-to-day spending to be balanced by tax receipts, allowing borrowing for investment.

But she has also imposed a second, tougher rule that requires debt to fall as a share of GDP between the fourth and fifth year of the official forecast.

Reeves hinted this week she might amend her fiscal rules to accommodate new capital spending, telling the Labour party conference that the Budget would herald “an end to the low investment that feeds decline”, and that it was time for the Treasury to start counting the benefits, not just the costs.

She has already said that a pledge to keep the deficit within 3 per cent of GDP will apply only to current spending, leaving scope for longer-term investment.

The OECD argued, in a survey of the UK economy published this month, that setting targets on this rolling five-year timeframe leads to “suboptimal fiscal policy”.

“The actual date for meeting a rolling target never arrives by construction, which at each point in time creates strong incentives to implement looser fiscal policy in the near years and postpone consolidation,” the report said.

The OECD report said the UK should consider shortening the time horizon of the fiscal rules, while setting clear conditions for when they could be suspended to deal with economic shocks, and then reactivated.

It also suggested the Treasury could look at measures such as public sector net worth — which take account of “what the government owns as well as what it owes” — to help it reach a broader view of debt sustainability.

Pereira’s comments came as the Paris-based OECD published new forecasts for growth and inflation in major economies, which showed the UK among the stronger performers.

Pereira said the UK economy was already growing faster than the OECD had expected when it last published forecasts in May, with GDP now projected to expand by 1.2 per cent in 2024 and 1 per cent in 2025.

However, inflation is likely to prove stickier in the UK than in any other G7 economy on the OECD’s projections, averaging 2.7 per cent in 2024 and 2.4 per cent in 2025.

The OECD said global GDP growth had remained resilient and was set to stabilise at 3.2 per cent in 2024 and 2025, albeit with a stark transatlantic divide, with the US economy outpacing a sluggish eurozone.