Rachel Reeves warns of a £20 billion black hole in her speech, while the Chancellor of the Exchequer uses it to hedge against future problems

RACHEL REEVES will deliver an important speech tomorrow that could set the tone for the rest of her term as Chancellor.

Some of what she will say is completely predictable.

She will stand up and complain about the mess the last ones left behind.

Some reports suggest it could potentially expose a £20 billion black hole in the government’s finances.

The claim that Labour has inherited the worst economic circumstances since the Second World War is exaggerated. But when it comes to public finances, Reeves is right.

Debt is high. Higher interest rates mean we have to spend more money to service that debt.

The economy is stuttering instead of booming.

Tax revenues are at a record high and yet the public service is struggling – the worst of both worlds.

We can also expect Reeves to have a lot to say about the dire state of public services. Here, too, she will be right.

The NHS backlog currently stands at 7.6 million, up from 4.4 million at the time of the 2019 election.

Worryingly, the number has started to rise again in recent months.

The prisons are full. The courts are groaning and partly leaky.

Communities are struggling to provide basic services.

Schools are struggling with the sharp increase in the number of students with special educational needs.

The Home Office spends a small fortune on accommodating asylum seekers. The list goes on.

“Worse than expected”

All this would not have been a complete surprise for the Chancellor.

Some of it might even be worse than expected.

There are undoubtedly things that the government knows that we don’t.

But there was never any doubt that she would inherit a difficult legacy.

Which brings us to the real purpose of Monday’s speech.

It’s about securing yourself politically for what happens next.

Let’s face it: public services will need more money

Let’s face it: public services will need more money.

The pay review bodies recommend pay increases of between five and six percent for teachers, nurses and other public sector workers.

However, the departments have allocated around two percent in their budget.

Rejection of these recommendations would almost certainly trigger strikes.

Acceptance of these measures could cost up to £10 billion.

Then there is the defense.

In addition to the direct cost of supporting Ukraine in the short term, there is the promise to increase defense spending to 2.5 percent of GDP in the long term. That is not cheap.

There is a promise to abolish all NHS waiting times of more than 18 weeks. That won’t be cheap either.

We will almost certainly have to build more prisons.

The new childcare subsidies for working parents must be financed somehow.

I could go on.

The point is that public services are in a mess and that there is a hole in the budgets for this and subsequent years that will have to be filled sooner or later.

The question then is: where should the money come from?

The question then is: where should the money come from?

In the longer term, the hope is that planning reforms, infrastructure investment and other growth initiatives will release much-needed funds.

But it will take some time for these measures to pay off, no matter how well they are designed and implemented.

And Labour has problems that require attention here and now.

So what are the options? Maybe by borrowing.

But the government cannot borrow more without violating its ‘iron’ fiscal rules – rules which, as the Finance Minister assures us, are non-negotiable.

“Financial reality”

There remains the question of taxes. Here, too, the Chancellor has limited her options.

It has ruled out future increases in income tax, social security contributions, value added tax (except on private school fees) and the corporation tax rate.

In other words, the biggest sources of income. So what’s left?

There are persistent rumors that she will try to generate more capital gains by taxing income from real estate or stocks at a similar rate to earned income.

It could try to raise more revenue through the inheritance tax. Eliminating some tax breaks for businesses and farmland could raise a billion or two dollars.

It could save some money by rolling back some of the overly generous aspects of the pension tax relief.

It could save some money by partially reducing the overly generous tax relief for pensions.

It could extend the freeze on income tax allowances for another year without violating the wording of its promise.

The Treasury Department has undoubtedly compiled a long list of possible sources of revenue, some more hidden than others.

The speech on Monday is unlikely to go into further detail.

But it could be an acknowledgement of fiscal reality. Better late than never.