UK facing tax hikes or spending cuts

The United Kingdom's finance minister, Chancellor of the Exchequer John Healey, has been warned his upcoming budget risks becoming a "work of fiction" unless he finds 35 billion pounds ($46.3 billion) to plug spending gaps caused by the damage from high inflation.

Leading economic think tank the Institute for Fiscal Studies, or IFS, said the chancellor must set out credible spending plans in his Oct 28 budget or face a stark choice between tax rises and deep real-terms cuts to public services by 2030.

Conflicts in the Middle East and Ukraine have driven up global energy prices, feeding through to higher costs for consumers worldwide and increasing government borrowing costs.

In its influential pre-budget report published on Monday, the IFS warned that with the government under growing pressure to reassure jittery financial markets, failing to address the spending gap would give the impression it was setting unrealistic plans.

Helen Miller, the director of the IFS, said: "A 'steady-as-she-goes' budget is not an option available to the chancellor. Choosing to stay the course with the inherited tax and spending plans would mean allowing inflation to blow departments' spending plans off course. Simply penciling in implicit cuts that he has no intention of delivering would make the budget a work of fiction."

The IFS has calculated that shielding departments from real-terms cuts would require an extra 25 billion pounds a year by 2030-31 — rising to 35 billion if ministers also follow through on plans to lift defense spending to 3 percent of GDP.

Raising 35 billion pounds through tax alone would require a 3 percentage point increase to all income tax rates, or the main VAT rate, either of which would breach the Labour Party government's manifesto pledges, the IFS said.

"A choice to leave spending totals unchanged would implicitly be a choice to cut some budgets and allow the quality and/or quantity of some public services to fall," the IFS report said.

"On the other hand, increasing spending to avoid cuts to budgets and fund higher defense spending could require tax rises or benefit cuts of around 35 billion pounds. The chancellor must decide where to land on that spectrum."

Recent bond market turbulence and inflation will also add around 10 billion pounds to UK government borrowing costs by 2029-30, the IFS said.

Healey travels to Bangkok, Thailand this week for the International Monetary Fund meeting, where he is expected to make the case that the UK can weather global economic shocks while maintaining sound public finances.

Speaking ahead of the gathering, the chancellor said: "The consequences of conflict in the Middle East and Europe are hitting countries worldwide, leading to higher prices at the pumps and more expensive mortgages at home, but Britain and our allies can face up to these challenges together."