As with recent fiscal events, this was a Budget where the main announcements were trailed well in advance (writes the team at FRASER of ALLANDER INSTITUTE).

The Chancellor confirmed a 2p cut to National Insurance Contributions to both employees and self-employed – a move which costs £10 billion a year and reduces taxes paid by the median Scottish employee by £342 a year.

Chart: Change in NICs annual liability for Scottish employees across the income distribution

Source: ONS, FAI calculations

Taxes are being cut… Yet rising?

But taxes as a share of national income are still going up from year from 2024-25 onwards – just by less than in the November forecast and by less than before accounting for the Chancellor’s measures. The tax-to-GDP ratio is forecast by the OBR to hit 37.1% by 2028-29, coming just under the 1948 record-high of 37.2%. This is partly because the Chancellor has used also done some targeted tax increases such as the abolition of the ‘non-doms’ regime and a new excise duty on vaping.

More broadly, however, the trajectory of the tax-to-GDP ratio is driven by the threshold freeze, which the Chancellor has left unchanged despite cutting the headline rate of NICs. These ‘stealth’ tax increases put together raise £41 billion – nearly double the amount that the Autumn Statement and Budget measures reduce taxes by. There will be 3.7 million more people brought into paying income tax than would if the personal allowance had been indexed with inflation – a 10% increase in taxpayers.

Chart: Tax-to-GDP ratio

Source: OBR

So sure, taxes won’t go up by as much as they would have done, but are still going up pretty strongly. Is that a tax cut? You decide.

How does the OBR expect the economy to perform?

Inflation has receded more quickly than expected. It should drop below the UK’s 2% target later this year.

The OBR expects inflation to slow to an average of 2.2% this year and 1.5% in 2025 before gradually returning to target at the end of the forecast period. The lower inflation forecast is driven by expected significant drops in global energy prices and weaker domestically generated inflation.

Chart: CPI inflation forecasts

Source: OBR

Lower inflation helps the UK’s growth prospects and a faster recovery in living standards from last year’s record decline.

Real household disposable income (that is, how much money households have to spend on average after taxes and benefits) is now forecast to return to pre-pandemic levels in the next year – two years earlier than previously forecast.

While the financial year 2022-23 remains the most significant year-on-year decline in living standards since the 1950s, the OBR now anticipated average annual growth of around 1 percent in living standards over the forecast period.

Chart: Real household disposable income per person forecasts

Source: OBR

This faster recovery in living standards is thanks to the reversal of the negative impact on terms of trade caused by the rise in imported energy prices, and lower inflation than expected.

Importantly for the Chancellor, the measures outlined in this Budget provide a boost to household incomes, with the reduction in the main rates of national insurance contributions alone expected to provide a direct boost of 0.5%.

This is good news for people across the country, even if it is a relatively small increase after half a decade of stagnation.

But it’s not all good news…

One of the most pessimistic parts of the OBR’s publication is the decline in the participation rate over the forecast period.

Recent data suggests that the increase in economic inactivity after the pandemic is lasting longer than expected. Although policies like childcare expansion and welfare reform are expected to increase labour supply, the impact is offset by the ‘fiscal drag’ from frozen personal tax thresholds.

As a result, the labour participation rate is projected to decline from its pre-pandemic peak of 64.3% to 62.8% by 2028.

Chart: Participation rate forecast

Source: OBR

This means that the share of people not in the labour force is expected to shrink further rather than recovering. This is not exactly brilliant news for the PM’s plan to get people ‘back to work’ and one of the drivers of medium-term economic growth.

The Chancellor made much of wanting to grow GDP per person, a better metric of how well the economy is doing than just GDP, which includes population growth – but the forecasts by the OBR are not particularly optimistic in that regard, and have been downgraded since November.

Chart: Real GDP per person

Source: OBR

The Chancellor meets his fiscal rule – but with essentially no room to spare and questionable spending assumptions

Before measures, the Chancellor already had limited headroom (£12.2bn) against his self-imposed fiscal rule of debt falling in the final year of the forecast. This is virtually wiped out by the measures in this Budget, especially after accounting for the freezing of fuel duty which we expect will continue to happen as it has in every year since 2011.

In that case, headroom would be £4.5bn against what is already a very loose fiscal rule. Such a small amount of headroom is essentially zero – even a small downward movement in the economy would mean the rule being broken.

And even the meeting of the fiscal rule in the OBR’s central forecast is predicated on what are generally held to be implausible future spending plans. There were rumours that RDEL and CDEL allocations would be squeezed further into the next Parliament – and while that hasn’t proved to be the case, the plans are pretty restrictive already, and they have been made worse still by a larger population than previously projected.

Resource spending is forecast to grow by only 2% across the whole forecast; capital, meanwhile, is projected to be cut by 8% in real terms over the next 5 years. It’s hard to see how this can be sustained throughout the next Parliament – no wonder the OBR Chair labelled them a ‘work of fiction’.

Chart: UK Government real DEL plans per person

Source: OBR, FAI analysis

What does this mean for the Scottish Government?

Barnett consequentials have been announced of £295m in 2024-25, largely due to higher spending on the NHS in England (£237m) and a larger settlement for English local government (£48m), with the latter already committed to partially pay for the council tax freeze. There is nothing additional on capital apart from small amounts from 2025-26 (less than £80m a year).

As is now customary, we have produced a handy table to guide you through the different decisions and whether or not they apply in Scotland – and if they are devolved, what the Barnett consequentials are.

Table: Devolved and reserved decisions, and Barnett consequentials

Source: OBR, HM Treasury, FAI analysis

The Scottish Budget featured a number of difficult decisions by the Scottish Government, with a particularly tough settlement on the capital side. In many ways, this remains the case – there have been no changes in CDEL allocations for the coming year, with all the consequentials coming on the resource side.

Nevertheless, and as expressed in paragraphs 1.60 and 1.61 of the Treasury’s guide on Consolidated Budgeting Guidance, the Scottish Government would be allowed to move these resource consequentials (or indeed other resource allocations) into the capital budget – just not the other way around. We’ll see whether it decides to do that for any of the additional funds.