The government has decided to abandon a planned income-tax increase in the upcoming 26 November Budget, the Financial Times revealed overnight.
The move comes after weeks of chancellor Rachel Reeves signalling that higher taxes could help curb inflation, rebuild confidence and bring down the UK’s elevated borrowing costs.
Following the news, 10-year gilt yields reached 4.57% (an increase of 0.13%) and two-year yields were up 0.06% to 3.82%.
Kallum Pickering, chief economist at Peel Hunt, said the “significant reversal” was underpinned by “fears that increasing income tax rates would further anger the public as well as Labour MPs”, but creates a major hole in the public finances and raises fresh questions about fiscal credibility.
The reversal also leaves Reeves with a substantial fiscal shortfall to address.
“Raising the 20% income tax rate to 22% could have raised £15–20bn,” Pickering noted. Without it, the government must now find alternative ways to close what could be a £30bn gap.
Attention has shifted to other possibilities, for example cutting the thresholds at which workers start paying income tax while keeping the rates unchanged.
Extending the freeze on thresholds beyond 2028 was already expected to generate about £8bn and could still function as a disinflationary tool, but it also risks further backlash.
“Reducing tax thresholds may have the same effect” as raising the tax, Pickering said.
If Reeves opts against raising tax rates or lowering thresholds, she could be forced into “a haphazard patchwork of smaller anti-growth tax increases”, an approach that “would add to uncertainty, further damage the government’s already tarnished credibility and complicate any Bank of England judgement to potentially offset tax rises with rate cuts”.
Neil Wilson, UK investor strategist at Saxo Markets, said the Treasury’s retreat from an income-tax rise has broader implications for policymaking, leaving a deeper challenge for the chancellor.
“Markets are now trading on the political as well as the fiscal,” he said. “But the chancellor is riding a tiger – by trying to do anything and everything to please markets, Reeves is now at their mercy. Appeasement never works.”
He warned that the government risks entering what he called a “doom loop scenario”, where efforts to avoid unpopular tax rises could erode confidence in its ability to manage the public finances. “Moreover, the market thinks you lack credibility in terms of filling the black hole and raising headroom,” he said.
“This neatly shows how the chancellor is between Scylla and Charybdis – please markets or please the people. Please the markets and the party and people revolt, please the party and markets go vigilante.”