U.K. Discovers Budgets Do Matter

“If you find yourself in a hole, stop digging.” So cautions The First Law of Holes, a witty adage intended to warn against making an already untenable situation worse.

The United Kingdom’s short-lived government inherited an economy in such a hole: Unlike many of its peers, the nation never returned to pre-pandemic output levels.

Leftover scars from the Brexit saga caused the British economy to limp, rather than sprint, alongside other developed nations into the next rounds of the global obstacle course—disrupted supply chains, soaring inflation and rising interest rates.

Yet the metaphor’s wisdom was lost on the now-ousted U.K. leadership team, which announced tax cuts without a credible plan to offset the consequent shortfall in revenues even as it recommitted to maintaining future outlays. The cuts were intended to support economic growth, but there was the inconvenient matter of payment.

The U.K.’s economy has not yet dug itself out of its most recent hole—a debt burden overhang from Covid-era programs. As proposed, the cuts would have resulted in additional large-scale borrowing at a time when the Bank of England was ratcheting up interest rates to choke off double-digit inflation.

The government’s credit card was—somewhat embarrassingly—declined, and market justice arrived swiftly.

The British pound hit the lowest-ever level against the U.S. dollar while borrowing costs throughout the economy soared, forcing the Bank of England to step in and head off a collapse in bond markets. Rating agencies placed the United Kingdom on watchlists, citing the budgetary proposals that risked substantial deterioration of fiscal imbalances, raising the cost of borrowing, and complicating the task of bringing inflation under control.

The government backtracked on its plans: partially at first, then completely with Prime Minister Liz Truss’s resignation after just 45 days in office.

However, the damage has been done, and the United Kingdom now faces additional economic obstacles. Fiscal credibility has been tarnished while increasing policy uncertainty has pinned the country with borrowing rates well above those of its peers.

Unintended blunders are inevitable as countries worldwide work to regain their pre-pandemic economic footing. So long as the margin for error remains extraordinarily slim, the consequences of all macroeconomic missteps—including the preventable, self-inflicted kind—can be grave.

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