Iran war price spike threatens Healey's Budget, IFS warns

Chancellor John Healey is preparing his first Budget against a backdrop of rising prices caused by the US-Israel war in Iran, and the Institute for Fiscal Studies has warned the resulting inflation will leave him with stark choices. The think tank said Healey must decide between cutting spending, raising taxes, or a combination of the two, because inflation is eroding the real value of departments' cash budgets. It also urged him to make his spending plans credible rather than pencilling in future cuts he does not intend to deliver.

The IFS expects turbulence in bond markets and higher inflation to add roughly £10bn to forecasts for the government's borrowing costs in 2029-30. It still believes the government will meet its self-imposed fiscal rules, which require borrowing only for investment by that year and debt falling as a share of GDP, partly because inflation lifts tax revenues. But it predicts the buffer available will shrink to about £20bn, below the £24bn the Office for Budget Responsibility forecast at the Spring Statement, and says maintaining departmental budgets could require finding an extra £25bn in 2029-30 before any increase in defence spending.

Ahead of this week's annual International Monetary Fund meeting, Healey said conflict in the Middle East and Europe was pushing up prices at the pumps and making mortgages more expensive worldwide, adding that Britain and its allies could face those challenges together. He said his Budget would combine fiscal discipline with economic resilience and give households breathing space. The Treasury declined to comment on what it described as rumour and speculation.

IFS director Helen Miller said a steady-as-she-goes Budget was not available to the chancellor, arguing that sticking with inherited tax and spending plans would let inflation blow departmental budgets off course. She warned that implicit cuts Healey had no intention of delivering would turn the Budget into a work of fiction. The IFS also expects any help for households to be temporary and limited in scale.

Both the US-Israel war against Iran and Russia's invasion of Ukraine have helped drive up global energy costs, which have been passed on to consumers through higher prices in shops and at fuel pumps. Those conflicts have also raised the cost of servicing UK government debt, adding to pressure on the chancellor to convince financial markets he has a firm grip on the public finances. Recent signals suggest markets would tolerate the reduced headroom the IFS describes.

The IFS cautioned that its forecasts are exceptionally uncertain in such a volatile environment and that the OBR's official assessment, which Healey relies on, could reach a very different conclusion. The chancellor is not obliged to settle spending totals in this Budget and could defer decisions to next year's Spring Statement or a Spending Review. The IFS said the plans inherited from former chancellor Rachel Reeves mean some departments' budgets will fail to keep pace with inflation within a few years, and that ignoring this would undermine confidence in the government's plans — though it noted previous chancellors have used similar tactics before revising plans later.