Chancellor wants to offer about 6% without having to increase UK borrowing

Jeremy Hunt has ordered ministers to find over £2bn of savings to fund 6 per cent public sector pay rises this year, as he prepares to hold crunch talks with Rishi Sunak on the matter.

The chancellor has warned that he will not borrow more money to fund pay rises for police officers, teachers, nurses and other public sector workers, arguing it would fuel consumer price inflation, currently running at 8.7 per cent.

Independent pay review bodies have recommended public sector awards of about 6 per cent for the 2023-24 pay round, well above the 3.5 per cent proposed by the government, creating a funding gap.

Hunt’s edict has provoked a flurry in Whitehall to find savings, including reviewing capital programmes, with warnings from some ministers that the cuts would damage already-stretched public services.

“The conversations are live and the bleeding stumps are out,” said one person close to the negotiations, referring to the habit of spending ministers to issue dire warnings of the consequences of cuts.

Hunt and Sunak are expected to agree a strategy on public sector pay on Thursday after the prime minister returns from the Nato summit in Vilnius, government insiders said.

New data on Tuesday showed that pay in the UK grew faster than expected and hit a record high in the three months to May, adding to pressure on the Bank of England as it tries to curb inflation.

Employees’ regular average pay, which excludes bonuses, grew at an annual rate of 7.3 per cent in the three months to May, higher than the 7.1 per cent forecast by analysts polled by Reuters.

Sunak and Hunt agreed to discuss the government’s response to the pay review bodies after digesting the new data, which has heightened official concern about wages fuelling inflation.

Hunt told the Financial Times last week that the pay review process, which covers 2.5mn public sector workers, was a good one, adding: “We would want to go along with it in all but the most exceptional circumstances.”

But he added: “If they’re funded in a way that puts additional demand into the economy at a time when there’s already too much demand, that only makes the battle against inflation harder.”

Those briefed on the Whitehall negotiations said ministers have been asked to find savings of between £2bn-£3bn to fund the pay awards, to avoid the need for extra government borrowing.

Hunt and Sunak will also have to weigh whether 6 per cent pay rises for teachers, nurses, doctors, dentists, prison officers, the police, armed forces and senior public officials is responsible in a high-inflation environment.

Ministers have previously warned that public sector pay deals set a template for the corporate sector, but government insiders said “the main transmission mechanism” to higher inflation was through more borrowing.

In any event, from March to May 2023 average regular pay growth for the private sector was 7.7 per cent, compared with 5.8 per cent in the public sector.

Governments rarely reject the recommendations of the pay review bodies; doing so this year would only heighten tensions with public sector workers who are conducting a wave of strikes in protest at last year’s awards.

On Monday, both Hunt and Andrew Bailey, Bank of England governor, warned at the annual Mansion House dinner in the City of London about the inflationary impact of high pay settlements.

Sunak told reporters en route to Vilnius that he was determined to hold down borrowing, partly because interest rates were rising — pushing up government debt costs — and partly because it would fuel inflation.

“Government should not fuel the fire by excessively borrowing at a time when that would make the situation worse,” he said, adding that tax cuts were off the agenda for now.

“The number one priority right now is to reduce inflation and be responsible with government borrowing,” he said. “That takes precedence over everything else.”

Meanwhile, the IMF, in a review of the UK economy, said on Tuesday that the country was “expected to avoid a recession in 2023” but there were “considerable risks in the period ahead”, including on pay.