Bloated public sector is damaging economy, warns Andrew Bailey
Andrew Bailey has warned that Britain’s bloated public sector is dragging down the economy after the Bank of England slashed its 2025 growth forecasts in half .
The Governor of the Bank of England said an increase of half a million workers in the public sector since lockdown had not been matched by a rise in productivity.
It comes after civil servants last week threatened to strike over demands that they return to the office for two days a week.
Speaking after the Bank slashed growth forecasts for 2025 from 1.5pc to 0.75pc, Mr Bailey said: “It is fair to say we have seen an increase in public sector employment. We haven’t seen a commensurate increase in measured public sector output.”
Mr Bailey’s comments came as the Bank cut interest rates to 4.5pc from 4.75pc in a surprise split vote and warned that the economy would narrowly avoid a recession at the turn of the year.
The Bank blamed an “increasing share of employment accounted for by areas where the public sector is the predominant employer such as education, health and public administration” for holding back productivity growth in the past few years.
It added: “Employment in these areas has risen significantly since 2019, particularly in health-related activities, but these sectors have also seen significant declines in their measured productivity per hour. This means that the shift in the composition of total employment towards these areas will have weighed on total productivity.”
Mr Bailey also suggested that record net migration in recent years meant overall productivity growth was even weaker than previously thought.
“We have got more population, we have got more labour force, we have got the same output, so you can only conclude then that you have got lower productivity,” he said.
The intervention will be regarded as an embarrassment for Rachel Reeves, the Chancellor, after she vowed to prioritise growth in a major speech last week .
The Government is expected to preside over a big expansion of the state in the coming years, with more workers on higher salaries funded by a record £40bn tax raid announced last October.
Threadneedle Street also warned that the Chancellor’s public spending splurge risked keeping interest rates higher for longer.
“Higher public sector spending can reduce the amount of capital available for private investment,” it said, which in turn would put “upward pressure” on the borrowing costs needed to ensure inflation remains stable.
Speaking on Thursday, Sir Keir Starmer insisted he was “not satisfied with growth as it is” as he channelled US President Donald Trump by vowing to “build, baby, build” and slash planning red tape for nuclear plants.
“I’m not satisfied with growth as it is,” added the Prime Minister. “I’m determined we’re going to go further ... to turn our economy around.”
Mel Stride, the shadow chancellor, warned that government policies were making working people poorer with fewer jobs, lower wages and higher prices.
“We are heading for ‘Starmflation’ thanks to Labour’s mismanagement,” he said.
Mr Bailey said policymakers would take a “gradual and careful approach to reducing rates further” as he signalled that the impact of higher taxes and Donald Trump’s trade war would affect how quickly the Bank could cut rates going forward.
Public service productivity remains 8.5pc below pre-lockdown levels amid a collapse in output during the pandemic.
Ms Reeves has pledged to boost public spending on the NHS and schools dramatically over the next two years.
Lord Bridges, a senior Conservative peer, warned that weak productivity growth risked blowing an even bigger hole in the public finances.
The Office for Budget Responsibility (OBR), the government’s tax and spending watchdog, has previously estimated that annual productivity growth that was half a per cent lower will increase borrowing by £40bn a year by the end of the decade.
Lord Bridges said: “Taxpayers are paying more and getting less. If we don’t improve productivity, we risk going deeper and deeper into debt.
“Reeves promised us stability but it is turning into the stability of the graveyard. We are facing a triple whammy of higher prices, higher unemployment and lower growth. We risk seeing a downturn made in Downing Street.”
The OBR believes public sector employment will continue to grow to 6.3m by the end of the decade, up from 5.8m in 2023-24.
The Bank’s latest economic forecasts warned of a stagnating economy, higher inflation and rising unemployment against the backdrop of a £40bn tax raid that will hit low-paid workers hardest.
It said businesses were raising prices faster and shedding jobs more quickly than initially anticipated.
The pound fell against the dollar after two rate-setters surprised markets by voting for a bigger rate cut to 4.25pc.
Mr Bailey said policymakers would take a “gradual and careful approach to reducing rates further” as he signalled that the impact of higher taxes and Mr Trump’s trade war would affect how quickly the Bank could cut rates going forward.
Inflation is expected to rise to 3.7pc by the end of this year, almost double the Bank’s target of 2pc.
However, Mr Bailey said he expected this to be a “bump in the road” driven by temporary factors such as higher energy and water bills.
Officials signalled that they were prepared to continue cutting rates as wage growth continues to cool.
However, price rises, as measured by the consumer prices index (CPI), are not expected to return to 2pc until the end of 2027.
Consumer-facing sectors such as retail and hospitality are expected to be hit hardest by Ms Reeves’s decision to increase employers’ National Insurance by £25bn.
Bank staff highlighted that a large share of these businesses employed staff at or just above the minimum wage, preventing them from absorbing the tax rise through lower wages.
Instead, these businesses which employ millions of workers, were expected to hire less or shed more jobs.
The Bank warned: “Employment may have a more prominent role as a margin of adjustment than otherwise, as the sectors that are most affected by the NICs [National Insurance contributions] increase also tend to be more labour intensive.
“Overall, the evidence from surveys since the Budget highlights the risk that more adjustment to the NICs changes might come through lower employment than in the central assessment of the forecast.”
The Bank also suggested that a global trade war that saw the US president impose tariffs on UK goods would weigh more on growth than raise prices. Its analysis showed that US exports are worth £200bn per year, though much of this is in services trade, which would not be hit by tariffs.
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