Public sector pay rises hand Reeves a £6.7bn headache ahead of Budget

High borrowing costs and public sector pay rises have given chancellor Rachel Reeves a £6.7bn headache ahead of next week’s Budget.

Borrowing in the first six months of the year stood at £79.6bn, £1.2bn higher than a year earlier and almost £7bn higher than the Office for Budget Responsibility watchdog – which monitors the state’s finances – had estimated.

The surprise rise in borrowing came despite the cut to Britain’s expenditure on winter fuel allowances, which will now be means-tested and will be paid next month.

Jessica Barnaby, deputy director for public sector finances at the Office for National Statistics, which released the data, said: “While tax revenue increased, this was outweighed by increased spending, partly due to higher debt interest and public sector pay rises.”

Ms Reeves has said she needs to fix a £22bn “black hole” in Britain’s finances. She is looking at ways to cut spending and raise money to fix it.

Today’s news may tempt her to look at the UK’s liabilities rather than debt when it comes to measuring the government’s financial health.

Rob Wood, chief UK economist at Pantheon Macroeconomics, said: “Changing the fiscal rules in that way would give the government about £50bn additional headroom to borrow.

“We think markets will be unruffled by that change because boosting investment should raise GDP, making government borrowing more affordable.”

Treasury chief secretary Darren Jones said the state of the public finances meant there would be “difficult decisions” in next Wednesday’s Budget.

He said: “We have inherited a £22 billion black hole in the country’s public finances, including no plan to fund pay deals for millions of public sector workers.

“Strikes cost at least £3 billion last year, so it was the right thing to do to end those damaging disputes.

“Resolving this black hole at the Budget next week will require difficult decisions to fix the foundations of our economy and begin delivering on the promise of change.”

While borrowing costs for the government stand at about 4 per cent, rates are likely to fall.

UK interest rates will almost halve from their present rate of 5 per cent, top US investment bank Goldman Sachs said yesterday.

Borrowing rates, set by the Bank of England, will sink to 2.75 per cent by the end of next year, Goldman predicts, suggesting a faster fall than borrowers and lenders have forecast.