Rachel Reeves prepares to clip the wings of the almighty OBR

Rachel Reeves is not keen to draw comparison with Liz Truss, whose “Growth Plan” triggered a market panic in autumn 2022 and rapidly made her Britain’s shortest serving Prime Minister.

But despite once attacking Truss for “unfunded and uncosted commitments that crashed the economy”, the shadow chancellor shares more with her former opponent than either might like to admit. 

Like Truss, she also wants to champion economic growth. And like Truss, her plans suggest she is acutely aware of the challenge posed by the Chancellor’s fiscal rules, which are policed by Britain’s fiscal watchdog, the Office for Budget Responsibility (OBR).

Unlike the former PM, however, Reeves is attempting to fight the body’s growing power by setting up a counterweight in the Treasury – with a focus not on the balanced financial forecasts of the OBR, but on increasing GDP itself.

In a lecture at Bayes Business School on Tuesday evening, Reeves will announce a plan to “hardwire” economic growth into Britain’s budget and spending review processes.

To do this, she will give new powers to the Treasury’s Enterprise and Growth Unit (EGU). Under a Labour government, for the first time, the EGU would be given a role in the Chancellor’s fiscal and spending planning process.

Reeves argues that this will “enshrine that core growth mission within our economic architecture”.

Whether it is enough to overcome Britain’s bias towards inaction remains to be seen.

The OBR was set up by then-chancellor George Osborne in 2010 to hold the Government to account on its fiscal targets and assess whether the public finances were on sound footing.

In its early days, the office was widely seen as a political stunt intended to prevent future Labour PMs from launching debt-fuelled spending sprees.

But it has evolved over time into an institution whose word is taken as gospel by markets and whose verdicts can lead to a Budget being lauded as a triumph or written off as a disaster.

Critics believe that the body is now so strong, its cautious approach has left chancellors unable to unveil radical reforms that could ultimately save the economy from stagnation.

“We have this crazy setup where these guesses about big numbers in four or five years’ time influence policy decisions today. Back in the day before we had these stupid fiscal rules, policies were dictated by your economic judgement and so it was a far more sensible outcome,” says Gerard Lyons, senior fellow at the Centre for Policy Studies.

“What Reeves is saying is we need to boost growth and implicitly there is a problem with how the institutional framework works and she wants to change it.”

Truss attempted to beat the system by totally bypassing it, immediately sacking Tom Scholar, the most senior civil servant in the Treasury, and foregoing an OBR review of measures in her mini-Budget. Markets took fright and she lasted for just weeks as a result.

Reeves has instead announced plans for a major reform of the system aimed at making it work in harmony with her objectives.

The OBR will continue its job of marking the Government’s homework. But the shadow chancellor hopes to change the mark scheme by relying on the EGU.

This unit was set up in 1997 under Tony Blair and is dedicated to promoting economic growth and higher productivity. Involving it in the fiscal planning process will give a chancellor more power to make a case to the OBR for policy measures that target growth, says Simon French, managing director at Panmure Gordon.

This could involve changing the criteria that policies are measured against, or placing greater weight on the value of boosting growth when the OBR assesses policies, says French.

“If you beef up your capacity to make the case, you have a better chance of success.”

The market implosion that followed the September 2022 mini-Budget was not because Truss misdiagnosed the problem but how she approached it, French says.

“She had absolutely diagnosed the problem correctly,” he says. “The UK has too little growth.”

Britain fell into a technical recession at the end of last year, defined as two consecutive quarters of negative GDP. Across the entirety of 2023, the economy grew by just 0.1pc, according to the Office for National Statistics (ONS). Excluding 2020, which was affected by the pandemic, this was the weakest annual growth rate since the financial crisis in 2009.

Britain’s problem with growth is a long-term issue. Productivity has been in the doldrums since the financial crisis. Between 1974 and 2008, productivity increased on average by 2.3pc per year, according to the National Institute of Economic and Social Research (NIESR).

From 2008 to 2020, the average growth rate was roughly a quarter of this, at just 0.5pc. In 2023, the ONS estimated productivity growth was 0pc.

Part of Britain’s growth problem is rooted in the fact that the Treasury is caught in the middle between two forces, says French. It wants to generate growth but it must also balance the books.

“When push comes to shove, the accounting approach tends to win out,” he says.

“I think this is being driven by Sue Gray [Labour’s chief of staff], looking at the structure of the Treasury and how it is not fit for purpose in terms of representing the accounting interpretation of public spending and the growth interpretation of public spending.”

Chancellors are pushed into policy contortions in order to meet a set of fiscal rules, which are assessed by the OBR. These include getting debt falling as a share of GDP by the end of the forecast period. These fiscal rules have become increasingly restrictive over policy.

In his March Budget, Jeremy Hunt met this rule with headroom of £8.9bn, roughly a third of the average £26.1bn headroom that chancellors have maintained since 2010, according to the OBR.

The OBR does analyse the Government’s fiscal policies in terms of what they mean for growth. In its March economic and fiscal outlook, for example, the OBR calculated that the Chancellor’s measures would bring 200,000 workers into the workforce. But strengthening the EGU could give growth targets more precedence in the OBR’s assessments, says French.

Reeves should go further and pursue former Labour prime minister Harold Wilson’s idea of splitting the Treasury into a finance ministry, which controls the tax and accounting, and an economics ministry, which looks after growth, argues Lyons.

“Under Brown and Blair it became a super ministry. It’s asked to do many things which in many other countries are separated into other departments,” he says.

The current dominance of budgeting over economics plays a major role in the Chancellor’s approach. Lyons argues it was the reason that the Government did not cash in on the opportunity to borrow when interest rates and yields on government bonds were very low in the years after the financial crisis, but instead opted to squeeze public services through austerity.

Will a shake-up of the system not spook markets, as in the wake of the Truss mini-Budget? French argues they will be relaxed.

“They won’t be stressed one little bit, because if you do things in a credible, systematic, transparent, logical way, you will have far more wiggle room,” he says.