In recent days there has been a bit of political drama with Labour being forced to revise its flagship Welfare Bill.
The Welfare bill was contentious when announced. Labour said it was designed to reform key welfare provisions like Universal Credit (UC) and Personal Independence Payment (PIP) in order to save a not insignificant sum of £5 billion annually by curtailing benefit provisions.
Since its announcement a series of intense internal political battles, public protest, and advocacy group pressure compelled sweeping modifications. These revisions have not only altered the welfare landscape but have also instigated a significant fiscal dilemma. With the anticipated cost savings now substantially reduced, the government is facing mounting pressure to address the shortfall, likely through adjustments in tax policy; with the next opportunity to announce these being the Autumn Budget.
Pitched as a necessary instrument for modernising our overstretched welfare state, one planned element of the Welfare Bill was a reduction of the Universal Credit health element for new claimants. Labour argued this was intended to curb long-term dependency on benefits. Alongside this PIP eligibility criteria was to become tighter, so tight that it would hugely lower the number of claimants. To offset the negative effects Labour was to couple these headline cuts with a £1 billion employment support initiative. The combination of the cuts and the scheme would achieve the sought-after £5 billion in annual savings.
Unfortunately for PM Starmer and Chancellor Reeves, the political landscape turned volatile almost immediately. A mix of public sentiment and internal dissent among Labour MPs culminated in a dramatic rebellion: 49 MPs voted against the bill, marking the largest party revolt seen under Starmer's leadership. This dissent stemmed largely from concerns that the stringent PIP eligibility criteria would leave thousands of disabled people without adequate support, potentially worsening their financial and social situations.
Under this political pressure, the government began negotiating with dissenting party members and key stakeholders. In a dramatic turnaround, the PIP reforms, the very element set to generate almost half of the anticipated savings, were abandoned. Instead, the government pledged to commission a comprehensive review of the PIP system, delaying any substantive changes until autumn 2026.
While the Universal Credit reforms, particularly the halving of the health element for new claimants, persist, instead of a freeze on payments, those for existing claimants would now rise in line with inflation.
These last minute concessions, though politically expedient, had profound fiscal repercussions. The elimination of the planned PIP cuts alone slashed the forecast welfare savings for the Treasury from £5 billion to an estimated range of £2.5 to £3 billion per year by the end of this decade.
Such a reduction not only undercuts Labour’s fiscal narrative but places the government in a precarious position with respect to its broader fiscal goals. The original promise, which ensured that day-to-day spending would be fully supported by revenues, now appears increasingly unlikely, as the fiscal gap expands with the erosion of the planned savings.
The loss of these projected savings forces a critical question: how will the government bridge this fiscal gap?.
Increased public spending, particularly in social services and public sector investment, remains politically and economically unavailable. So, once again the possibility of a tax hike is increased and the upcoming Autumn Budget in a few months the likely strike point.
Although Labour has repeatedly committed to its electoral pledge not to raise income tax, National Insurance contributions, or VAT, this trio of taxes is not the sole means of revenue generation.
There are alternative taxes that may be targeted.
Growing speculation that the government might consider raising the rates on corporation tax or capital gains tax.
CT and CGT both are easier targets because the normal working public don't see them as a direct hit like taxes on PAYE wages and consumption (duties etc). Raising these could offset the £5 billion hole from the shelved welfare reforms.
The possibility of implementing completely new levies, in sectors such as digital services or even broad-based environmental taxes, has been floated by some.
The fiscal pressures, illuminated by the Institute for Fiscal Studies (IFS) and the Resolution Foundation, suggest that without additional revenue measures, the government risks violating its own fiscal management targets set for 2029/30. The projected annual savings by the Welfare Reforms are now slashed by as much as 50%, the pressure to generate alternative revenue sources intensifies.
Any tax increases, however marginal, could dampen economic growth at a time when the post-pandemic recovery remains uneven across different sectors of the economy. Conversely, responsible economic management necessitates that all sources of revenue be explored when critical savings fail to materialise. In either scenario, the fiscal trade offs are set to reverberate throughout the wider economy, affecting everything from consumer spending to investor confidence.
Rachel Reeves, the Chancellor, was visibly upset in Parliament today following the welfare U-turn, with No. 10 insisting she has the Prime Minister’s "complete support". But on the news that PM Keir Starmer refused to guarantee Reeves' future as Chancellor or rule out tax rises, the pound fell and government borrowing costs rose. This market reaction underscores the fiscal uncertainty created by the welfare U-turn, raising questions about the UK's fiscal stability.