What is the OBR and why does it matter?

Chancellor Jeremy Hunt will take centre stage tomorrow when he delivers the Spring Budget but investors are likely to pay just as much attention to the Office for Budget Responsibility (OBR).

The independent fiscal watchdog rarely steals the limelight, but, in an increasingly uncertain economic environment, the OBR’s forecasts will receive more attention than ever.

But what does it actually do?

What is the OBR?

The OBR was created in 2010 by George Osborne to provide “independent and authoritative” analysis of the UK’s fiscal position.

For every ‘fiscal event’ – Spring Budget and the Autumn Statement – the OBR produces a five-year forecast for the state of the economy and of the public finances. The forecasts incorporate the impact of tax and spending measures announced by the Chancellor.

In effect the fiscal watchdog marks the government’s homework by assessing whether Hunt’s plans meet the government’s self-imposed fiscal rules.

The key target is to have national debt falling as a percentage of GDP by the fifth year of the rolling forecast, but the rules also say that borrowing must also be below three per cent of GDP in the same year.

A seal of approval from the OBR reassures markets that the government’s spending plans are credible.

What will happen this time around?

The OBR’s forecasts are crucial for determining the extent to which the Chancellor can splash the cash. In short, more headroom means more room for giveaways.

In November 2023, Hunt had £13bn, or 0.4 per cent of GDP. In March of that year he had just £6bn, the lowest level of any Chancellor since the creation of the OBR.

The Chancellor is likely to have slightly more headroom this time around – up to a maximum of £20bn – as markets have priced in interest rate cuts across 2024, which will lower the amount the Chancellor has to spend on interest payments.

However, the improvement in the fiscal position is unlikely to enable dramatic tax cuts. Hunt has instead been looking for other ways of raising funds, including a levy on vapes, potentially scrapping the non-dom status and pencilling in a tighter squeeze on public sector spending.

Another 2p cut to National Insurance and a further extension to the freeze on fuel duty look the most likely options for the Chancellor this week, but experts remain concerned about the state of the public finances.

“Given the tightness of spending plans for public services there is a clear risk that any net tax cut announced on Wednesday will not prove sustainable,” Isabel Stockton, senior research economist at the Institute for Fiscal Studies said.

How accurate are the forecasts?

The OBR’s forecasts rely on the government’s stated policy proposals.

Believe it or not, politicians are not always entirely truthful about their spending plans. This has implications for the OBR.

Last time around the OBR forecast that the government would raise £4bn in fuel duty receipts in 2027-28 if it raised the tax in line with inflation, as it is supposed to. But the watchdog noted that the policy was “rarely implemented.”

“Cancelling these planned increases, as every Chancellor has done since 2011…would, in itself, more than halve the Chancellor’s headroom,” it said.

Many have also suggested that the government’s spending plans are unrealistically tight.

In the Spring Budget the government essentially delayed making spending cuts until after the next election. But failing to increase spending plans over the coming years would amount to a deep spending cut in real terms as inflation rises.

The Resolution Foundation estimated that failing to increase spending on unprotected departments would mean they face spending cuts of a similar magnitude to the austerity of the early 2010s.