The Middle East conflict threatens to derail UK Chancellor John Healey's first Budget by driving up inflation faster than the government anticipated, the Institute for Fiscal Studies warned.
Higher energy prices stemming from the US-Israel war in Iran and Russia's invasion of Ukraine have pushed up costs for consumers and increased the government's own borrowing expenses. The IFS said this inflation will eat into departmental budgets unless Healey raises taxes, cuts spending, or pursues a mix of both.
Healey acknowledged the pressures in remarks ahead of this week's International Monetary Fund meeting, saying: "The consequences of conflict in the Middle East and Europe are hitting countries worldwide, leading to higher prices at the pumps and more expensive mortgages at home." He pledged his 28 October Budget would deliver "fiscal discipline" and "economic resilience."
The IFS cautioned Healey against announcing spending commitments he does not intend to keep. Director Helen Miller said: "A 'steady-as-she-goes' Budget is not an option available to the chancellor. Simply pencilling in implicit cuts that he has no intention of delivering would make the Budget a work of fiction."
The think tank estimates the government faces a shortfall of around £25bn in 2029-30 if it wants to maintain departmental budgets in real terms while keeping defence spending ambitions on track. That figure would require substantial tax increases.
The IFS still expects the government to meet its self-imposed fiscal rules by 2029-30, but with a narrower safety margin. It predicts a £20bn "headroom" buffer, down from the £24bn forecast by the Office for Budget Responsibility at the Spring Statement. Bond market turbulence and higher inflation will add roughly £10bn to government borrowing costs by 2029-30.
However, the IFS flagged exceptional uncertainty in its forecasts given current volatility. The official OBR forecast, which Healey relies on for planning, could reach very different conclusions. The institute also warned that postponing spending decisions risks undermining the credibility of the government's financial plans.