This article was published in The Telegraph on 15 September 2025.
As we approach the Labour conference at the end of this month, cast a thought back to an earlier one. On a rainy Tuesday in 1976, Denis Healey hurried into the hall after being diverted from Heathrow where he had cancelled a planned trip to the Far East. His reason? To explain to delegates why the UK was going cap in hand to ask the International Monetary Fund (IMF) for a bailout. He needed to show the world that the government was still in control despite the need for austerity cuts and deep divisions in the Labour party.
A comparison with Healey would have seemed far-fetched when Keir Starmer and Rachel Reeves came into office a year ago. But repeated bond market jitters since then exposed the tightrope the Government is currently walking. Labour successfully hung the mini-Budget around the neck of the outgoing Tories promising “stability” instead. The reason they haven’t delivered it is because they were more interested in the politics than the economics of what happened.
Thinking about the economics would have been inconvenient, to say the least, when they always planned to increase borrowing. Indeed in her Budget, Reeves increased borrowing by a staggering £28 billion a year. Some of that, such as investment in infrastructure, will help growth. But the overall effect is to make the instability in public finances worse not better. Ahead of her next Budget, the Chancellor is scrabbling around to minimise the impact of additional tax increases. But debt should worry her even more than tax rises.
My summer reading was an excellent new book by Ray Dalio called How Countries Go Broke: The Big Cycle. In it he looks carefully at the risks caused by the inexorable rise in debt in advanced economies. Having built up the world’s largest hedge fund, he makes a living from forecasting what will happen next. He is not optimistic to say the least, believing what he calls a “mega correction”, something that only happens once every 80 years or so, is now overdue.
It is not a book about the UK - but our own finances illustrate his point. At the turn of the century UK debt was 34 per cent of GDP. It is now nearly 100 per cent. We are by no means the worst offenders. In France, where the government has just fallen for the third time in two years, it is 114 per cent of GDP. The US used to be relatively immune because of the dollar’s reserve currency status. But with debt at around 120 per cent of GDP, it too is vulnerable – as President Trump found out when “yicky” markets forced him to retreat on his tariff announcements.
For many years governments have borrowed to boost growth. Often it has worked – in particular by helping to avoid recessions. But in the end whether borrowing is counted as “investment” to grow the economy or emergency funding to stave off a recession, debt is what it says on the tin: money that has to be paid back. Now that interest rates are no longer near zero, that has become a painful business.
The OBR estimate interest payments on our debt this year will be £111 billion – nearly double the defence budget. But the best way to think about it is the impact on family budgets, where debt interest now accounts for £3,900 of the tax bill of the average household. That is money we pay with little benefit to the economy. It doesn’t boost investment to expand our productive capacity. It doesn’t boost consumption which supports jobs and tax revenue. Instead it is a drag anchor on our growth. And less growth means the national debt takes up a bigger share of GDP. The result is a doom loop of ever higher debt leading to ever lower growth.
If markets believed we had a credible plan to bring it down, they would charge us a lower interest rate. But because they are not convinced, our bond yields are at a premium. Indeed we have to pay the highest rates in the G7 to fund our debt. They are now even higher than they were after the mini-Budget. Embarrassingly they are also higher than in Greece or Italy.
When I became Chancellor I got bond yields down by nearly half a percentage point. I took plenty of difficult decisions but was also helped by a widespread recognition that we were in a crisis. The situation Rachel Reeves faces today is more of a slow burn – but the need for action is no less. Because for every finance minister, the rules have changed.
For most of our lifetimes they have been able to make judicious choices between taxing, spending and borrowing. Centre Right governments have tended to tax less (and borrow a bit). Centre left governments have tended to spend more (and borrow a bit). But now markets are taking borrowing off the table. Any extra spending requires immediate tax rises to fund it. Any tax cuts require immediate spending cuts. That is a profound change which makes decision-making much harder.
How then do we get out of the debt doom loop? Discipline on inflation is obviously important - not least because many of our bonds are index-linked meaning they cost taxpayers more if inflation rises. But discipline on public spending is even more important. Markets need to know the government is not spending at levels higher than the economy can support. For that reason I would favour a third fiscal rule: on average over a parliament, public spending should never rise faster than economic growth.
Constraining public spending is not easy. There are very good reasons why we will continue to need more funding for health and defence. But a smart reform of the welfare system would get more people into work and reduce poverty. After the Government’s shambolic u-turn in the summer it is essential they return to it. Reducing the working age welfare bill to pre-pandemic levels would release £47bn a year within five years even accounting for inflation.
Welfare reform is politically challenging. But it is essential. Unless we get out of our debt doom loop we will never unlock the economic growth which we desperately need. But if we rise to the challenge, the markets will thank us by charging us less. Securing just a 0.5 per cent reduction in the price we pay for our debt adds nearly £10 billion of headroom for the Chancellor. That means fewer growth-destroying tax rises and fewer painful cuts in spending.
That’s why the Labour mythology that there is somehow a choice between borrowing more or starving public services is so flawed. £111 billion of debt interest is money that we cannot give to the NHS, schools or the armed forces. It strangles growth and makes us more vulnerable to shocks. Any Chancellor interested in the long term health of the economy should make escaping the UK’s debt doom loop the number one priority.