Let’s play cost-cutting: the Treasury AI game exposing some very tricky trade-offs

Cabinet ministers have been encouraged to use a shiny new Reeves robo-tool to see if they can balance the nation’s books – and it’s shown that old-school rivalries are alive and kicking, writes Andrew Grice

As cabinet ministers thrash out how to balance the nation’s books, they are playing a new Treasury game. Its AI tool allows ministers to raise or cut departmental budgets to get the maximum benefit from public services. If they spend too much and breach chancellor Rachel Reeves’s fiscal rules, the screen flashes red and tells them how much income tax would go up – a no-go area.

The Treasury’s idea is to bind all ministers into the difficult trade-offs needed in a government-wide spending review to be published on 11 June. In theory, they will all be in it together, working in small groups to encourage joined-up working, instead of pleading for more money for their departments in bilateral negotiations with the Treasury.

However, traditional rivalries are alive and kicking. Liz Kendall, the work and pensions secretary, has identified £5bn of welfare savings. She wants to invest some of it in measures to help benefit claimants back into work, while the Treasury wants to pocket the money. “It’s classic short-termism. It would be a false economy not to go for reforms that would pay for themselves over time,” one Whitehall veteran told me.

Darren Jones, the Treasury chief secretary in charge of the review, is proud of his new tricks, which he calls “HMT [His Majesty’s Treasury] GPT”. But some ministers suspect the Treasury is up to its old tricks. To concentrate minds, Jones has asked ministers to model cuts of up to 11 per cent. They complain privately he “doesn’t get” the real-world impact of cuts that will feel like austerity 2.0 – which Keir Starmer and Reeves have repeatedly promised to avoid. One problem is that, with areas like the NHS protected, the axe would fall on budgets which bore the brunt of the cuts under the 2010-15 coalition and have not recovered since – such as local government, prisons and the courts.

Normally loyal Labour backbenchers are alarmed. Although some are campaigning for a hike in the defence budget, a majority would rather invest in other public services and welfare – for example, by raising the controversial two-child benefit limit to three children. “A rebellion over disability benefit cuts is brewing,” one said.

Without cuts, Reeves risks breaking her fiscal rules due to lower growth, higher inflation and higher government borrowing costs since her October Budget. On Friday, official figures showed public borrowing £12.8bn higher than the Office for Budget Responsibility (OBR) fiscal watchdog forecast in October. The Budget's £9.9bn headroom against the fiscal rule to balance spending and income in five years has likely disappeared already.

This week, the already difficult spending review got even harder. When Starmer urged the UK’s European partners to “step up” and boost defence spending, it made a significant UK increase inevitable. He can’t say one thing and do another. One option is to meet Labour’s manifesto promise to raise it from 2.3 per cent to 2.5 per cent of GDP by 2030 and even pledge to hit 3 per cent by 2035. That would play well with Donald Trump if Starmer shared such a plan in their talks at the White House next Thursday and enhance the prime minister’s chances of being taken seriously.

Reeves has tried to delay when 2.5 per cent will be hit until after 2030, but there are signs she will bow to Starmer’s pressure to move more quickly. Opposition parties are adding to the pressure, with the Liberal Democrats calling for cross-party talks on how to reach 3 per cent.

On Thursday, the chancellor said the defence target would mean “difficult choices”, which anxious ministers read as a hint of a further squeeze on other budgets. But Reeves does have other options. In theory, she could tweak her fiscal rules to allow higher borrowing for a genuine emergency on defence – as the EU will do – and argue in her spring statement on 26 March that circumstances had changed.

I suspect Reeves will not go down this route. She can’t risk upsetting the financial markets, who don’t entirely trust her – as their wobble last month showed. Relaxing her “iron-clad” and “non-negotiable” fiscal rules only a few months after setting them would play badly in the markets, which might suspect she was using defence as cover.

A better route for Reeves would be some limited tax rises. She could, for example, extend the freeze in allowances and thresholds beyond 2028 to bring in about £4bn. I think she might well do so. To avoid a return to austerity, some ministers want Reeves to impose a further tax increase on the highest earners. But her instinct will be to opt for spending cuts.

The decisions in the spending review will define the Starmer government. The UK undoubtedly needs to spend more on defence. But in doing so for the best of reasons, Labour might end up in the worst of all worlds. It would get little credit from voters for the defence boost but would alienate them if it cannot find the money to deliver tangible improvements to public services by the next election.