Help families now – but don't send interest rates higher later

Budget giveaways could come back to bite small businesses

The Chancellor wants to help struggling families and businesses in his Budget on 28 October, and many desperately need it. But there's a nasty law of unintended consequences lurking behind the giveaways: support that isn't properly targeted and funded could add to inflationary and borrowing pressures, potentially keeping interest rates higher. Small businesses could end up paying twice – first through their taxes and costs, and then through more expensive borrowing and weaker consumer spending.

THE COST‑OF‑LIVING SUPPORT BOUNCE

The Chancellor wants to help families and firms in his budget on 28th October, but there are laws of unintended consequences to consider. If any support unveiled in the budget isn’t well funded and properly targeted, it could push inflation up, leading to interest rate hikes and making the hole small businesses are already in, deeper.

The outlook ahead of the budget isn’t what you’d call rosy. Conflict in the Middle East and the up and down oil prices mean the Chancellor is juggling a deteriorating fiscal forecast and higher borrowing costs while he decides on which measures he can put in place and what he’ll have to consign to the cutting room floor.

In this environment, cost‑of‑living support is essential for many households but unless it’s spot on, it can backfire, hurting the very homes and businesses it’s meant to help.

Unfunded support pushes inflation up, and interest rates rise

When the Government borrows to fund support it increases the amount of interest it has to pay on that borrowing, that stretches the already stretched economy further, and inflation rises. If the Bank of England responds to higher inflation with higher interest rates, mortgages, loans, overdrafts and credit all become more expensive. That undoes any good the support did and leaves people at best, back where they started, or even worse off.  

For small and micro businesses, that’s devastating because overdrafts become unaffordable, credit card debt soars, investment plans have to be shelved and cashflow tightens overnight.

Even temporary support can raise inflation later, delaying recovery

Temporary measures, like VAT cuts, may reduce headline inflation now and ease pressure on interest rates, but that’s not the full picture. When temporary support ends though, prices go back up, inflation rises again, the Bank delays interest rate cuts and borrowing stays expensive. In that case small businesses are stuck with high costs, often coupled with reducing demand from customers.

Things might be a bit better for a while but then become a longer-term problem. I’m not suggesting that it was wrong to support businesses during the pandemic. It was essential but spending that huge sum of money could be contributing in part to the ongoing situation the economy is grappling with now, exacerbated by the problems in Ukraine and the Middle East.

Too Thin

The VAT cut on electricity bills made good headlines, but it’s a cut for everyone so it spreads money too thinly. Better‑off households gain more in cash terms with the poorer households getting too little to make any real difference. Universal support is attractive, politically, but it’s not a great tool for economic recovery.

Small businesses need targeted support rather than across the board giveaways. For them many attempts at support are too little too late, the fiscal cost is huge, and inflation risks rise, again.

Effective Support

While I was thinking about this problem, and not being an economist or policy person, I didn’t have any possible solutions, a report from the Resolution Foundation bounced in and it suggests the Chancellor could look at bringing in three measures:

Targeted energy support for low‑income households

The Resolution Foundation says a £2bn scheme focused on households earning under £24,000 would:

• reach two‑in‑five households

• support three‑quarters of the poorest families

• reduce pressure on small businesses by stabilising demand

• avoid inflationary borrowing

When low‑income households have breathing space, they spend locally, in cafés, shops, and pubs.

Relink Local Housing Allowance to rents

The typical shortfall for a two‑bed renter is now £160 per month according to Resolution Foundation calculations, and they say restoring the link would cost £2.5bn but would:

• reduce homelessness (and possibly reduce the problem building for renting pensioners with no income in addition to the state pension)

• stabilise communities

• support local spending

• ease pressure on small businesses in high‑rent areas

Housing insecurity kills high‑street demand. Fixing the Local Housing Allowance helps small firms indirectly because local renting households have more to spend.

Starter Deposit Scheme for young families

Another suggestion for the Resolution Foundation is that a low‑cost, well‑targeted scheme to help first‑time buyers would support younger consumers and families, boost local economies and cost little to deliver.

Small businesses rely heavily on younger families and that’s the group currently squeezed hardest.

Target and Fully Fund

The Chancellor will be hearing from lots of organisations between now and the 28th Oct, with a range of other suggestions for solutions. He is walking a tightrope to support those who need it most, avoid unfunded giveaways, prevent spikes in inflation, avoid pushing interest rates higher and stabilise demand for small businesses.

If he gets it wrong, small and micro businesses will face higher borrowing costs, weaker consumer spending, more closures, deeper cashflow crises and another winter in survival mode rather than investing for growth.

If he gets it right, targeted support can protect households and stabilise the high street.

Cost‑of‑living support can help if it’s smart, targeted and fully funded. Unfunded or universal support risks pushing inflation and interest rates up, weakening fiscal credibility and hurting small businesses twice. They need a budget that helps rather than harms. When support backfires, small businesses pay the price and the whole economy slows with them.