Inflation is measured by increases in the retail and consumer price indices.

Recipients of public services, e.g. the NHS, do not pay a retail or consumer price for this service. The same applies for most other public services.

If nurses are given a pay rise to cover inflation, consumers are not charged any more, so there is no direct effect on inflation. 

Government tax receipts tend to rise with inflation. Those given pay rises in line with inflation, pay more tax; VAT also rises with inflation. 

So the Treasury line that paying more than currently offered would be “inflationary” is arguable.

The real crunch occurs when inflation drives prices up but economic stagnation pushes purchasing power down, producing what is called “Stagflation”. Squeezing public sector pay reduces economic activity.

The political reason to squeeze public sector pay, which can only ever be a short term tactic, is to create budget headroom. Useful at this point in the electoral cycle to fund pre-election tax giveaways.   [Owl’s thought for the day]

Richard Partington www.theguardian.com 

Jeremy Hunt is facing calls to offer a bigger pay rise to public sector workers to break months of strike deadlock, after official figures showed stronger than expected government finances.

The government ran a surprise £5.4bn surplus in January, fuelled by bumper self-assessment income tax receipts, handing the chancellor scope to increase spending or offer tax cuts at next month’s budget.

The surplus was £5bn higher than the government’s fiscal watchdog, the Office for Budget Responsibility, had expected, although it was £7.1bn smaller than in January 2022, according to figures from the Office for National Statistics. Analysts polled by Reuters were taken by surprise, having predicted that the government would have to borrow £7.8bn in January.

In the final snapshot of the government finances before Hunt’s budget, public borrowing for the year so far was about £30bn lower than forecast by the OBR in November.

“[This] could tempt the chancellor to offer a pay increase to public sector workers as part of his budget next month, hoping to prevent another wave of strikes,” said Michal Stelmach, a senior economist at the accountancy firm KPMG UK.

Paul Nowak, the general secretary of the TUC, said the figures showed the government was “running out of excuses” to break the deadlock on strikes.

“Jeremy Hunt must come out of hiding and help break the deadlock on public sector pay. After 13 years of pay cuts and pay freezes nurses, teachers and millions of other public servants are at breaking point,” he said.

“If ministers don’t provide a fair pay settlement the staffing shortages crippling our schools, hospitals and other frontline services will just get worse.”

Government coffers were increased by £21.9bn of self-assessed income tax receipts, the highest January figure since monthly records began in April 1999. They were offset partly by substantial spending on energy support schemes for households and businesses to cushion the blow of spiralling energy prices, and large one-off payments relating to historic customs duties owed to the EU, the ONS said.

However, the Institute for Fiscal Studies said the cost of energy support was less than expected: “While expensive, the energy support schemes introduced in the last year are actually likely to cost less than forecast in November due to a combination of lower wholesale energy prices and a milder winter.”

Ruth Gregory, an economist at the consultancy Capital Economics, said the figures suggested Hunt “will have some wriggle room in the budget to fund near-term tax cuts and/or spending rises”.

However, Hunt suggested he was in no mood for loosening the purse strings after an increase in the national debt. “We are rightly spending billions now to support households and businesses with the impacts of rising prices – but with debt at the highest level since the 1960s, it is vital we stick to our plan to reduce debt over the medium-term,” he said.

“Getting debt down will require some tough choices, but it is crucial to reduce the amount spent on debt interest so we can protect our public services.”

Downing Street also played down the prospect of tax cuts, despite pressure from backbench Conservative MPs calling on Rishi Sunak to do more to support economic growth. The prime minister’s official spokesman said borrowing remained close to a record high, while “significant uncertainty and volatility” remained.

Interest payments on government debt have risen sharply in recent months because of the effect of higher inflation on index-linked gilts. Debt interest payable rose to £6.7bn, the highest January figure since monthly records began in April 1997. However, despite a rise compared with a year earlier, economists said borrowing costs had not risen by as much as feared in November.

The figures come as the government stands to benefit from a fall in global energy prices over recent months, which is expected to reduce the overall cost of support schemes put in place for households and businesses.

Cara Pacitti, a senior economist at the Resolution Foundation, said Hunt was approaching the budget with “significantly healthier borrowing levels” than forecast in the autumn.

“However, with borrowing still much higher than last year, and with interest rates likely to remain elevated for some time to come, Jeremy Hunt can’t afford to be relaxed about the state of the public finances,” she said.

“The extra fiscal headroom should allow him take on some key issues however – namely corporate reform, boosting workforce participation and preventing a spike in energy bills this spring.”