Andy Burnham’s second week in office brought more good news, with the Bank of England holding interest rates at 3.75% and the cost of government borrowing falling a little. However, he may find his honeymoon is almost over. His first announcements have been politically popular and have come with little cost, but the difficult decisions are still to come. Every extra pound spent to ease the cost of living or boost spending on social care, defence or housing has to be funded by higher taxes, more borrowing or cuts elsewhere. Get that balance wrong and inflation could stay higher for longer, interest rates may not fall as quickly as hoped, and investors could once again start questioning Britain's finances.

When do more votes for a rate hike lower the chances of a rate hike...?

The outcome of last week’s Bank of England meeting was largely as expected with the Bank voting to keep interest rates at 3.75%, but three of the nine-member committee voted for a rate hike. Two voted for a hike last time and were expected to again. On the face of it, then, that should make a future rate hike more likely as only two more members would have to switch camps.

However, expectations for future interest rates dropped, meaning the chances of future rate hikes fell.

This is because even though more members voted for a hike, the commentary from the committee made it clear that most of the committee has become less worried about domestic inflation and so didn’t think that the rate hikes were needed. Lower oil prices, despite the latest round of fighting, helped as well. In fact, some members mentioned the potential for resuming rate cuts later this year! As long as energy prices behave of course.

So, where does that leave interest rates for this year?

In our view, it gives weight to the argument that interest rates should be kept on hold for the rest of the year. Indeed, that is still our base case. But the risks are skewed towards rate hikes for two main reasons.

First, energy prices could easily surge again. Oil stocks are depleting, the Strait of Hormuz is closed again and natural gas stocks in Europe are their lowest level in a decade. If oil prices rise back towards $100 per barrel over the summer, the Bank will be forced to hike rates in September.

Second, if we get more borrowing and spending in the budget, that may be enough to delay the return to rate cuts, or even tip over into a rate hike if energy prices are also high.

Political promises will soon meet economic reality

Picking up on that thread, Andy Burnham and his new Chancellor, John Healy, are going to have some difficult maths homework over the summer.

The announcements made so far on VAT cuts for electricity bills, bus fare caps and reductions in business rates for pubs probably cost around £1.5bn. That sounds significant, but it amounts to roughly 0.1% of annual government spending, too small to alarm bond markets, but also too small to materially change the outlook for households or the economy. This is good politics, especially when compared to Starmer’s first month in office, but economically, they barely move the dial.

Now that the initial flurry of announcements is out of the way, the focus will shift to executing on some of the big picture ideas. The plans he’s outlined so far on things like defence, social care and housing could cost £45bn to £65bn.

Funding that is going to take a bit more than just fishing for some loose change in departmental budgets like he has done so far.

However, Burnham has also pledged to stick to the fiscal rules, limiting his ability to borrow freely, while Labour's manifesto commitments largely rule out increases in income tax, VAT and National Insurance, which together account for around two-thirds of tax revenues.

That will kick some of his bolder pledges into the next parliament, but if spending is to rise meaningfully, either borrowing must increase within the limits of the fiscal rules, hence the talk of ‘flexibility’ on borrowing, or other taxes will have to do more of the heavy lifting cue talk of ‘wealth taxes’.

A tax, spend and borrow budget might support growth in the short term, but it would ultimately be inflationary because it would add more demand into the economy in the form of government spending and investment than it would remove in taxes. As previously mentioned, that would make it more likely that the Bank of England would have to further delay rate cuts or could even raise interest rates later this year if energy prices are still high.

There is also a risk that worries about which taxes will go up cause a spike in uncertainty that weighs on confidence and activity later this year, similar to what happened at the previous two budgets. That could temporarily dampen growth.

Burnham's biggest test will not be announcing ambitious policies. It will be reconciling political impatience, including his own, with economic reality.

We expect the Final PMIs for July to confirm that the economy was boosted by England’s world cup performance and scorching weather.

The flash PMI shows that the Services sector returned to growth in June as the PMI bounced from 48.8 to 51.8 in July. We look for a slight downwards revision to the final services PMI as firms responding later in the month may have seen activity fall back a little following England’s exit from the world cup on 15 July.

Elsewhere, the manufacturing PMI rose to 51.9 in July with anecdotal evidence suggesting that demand related to AI and defence related spending helped to boost production alongside continued precautionary stock building due to the war in the Middle East.

Crucially, the Construction PMI, which doesn’t have a flash release, likely rose from 38.4 to 40.0 in July as new orders rebounded by 4.1 points in June and firms’ optimism about the outlook rose to the highest since March, consistent with an improvement in the PMI. That said, the bigger picture is that the construction PMI has been consistent with falling output for 18 months now which will pose another headwind to Andy Burnham’s mission to build the most homes since the postwar period.

All told, the PMIs will show the economy receiving a short-term boost from the World cup and good weather.

Just as Andy Burnham makes the case that Britain needs to value the hard hat just as much as the graduation cap, manufacturing output is surging, growing twice as quickly as the rest of the economy over the last year.

What’s more, there is now good evidence that this is more than just firms rushing orders to get ahead of any price increases from the fallout of the Iran war. There has been no sign of a drop off in output in the latest data, as we would have expected if firms had been just bringing forward orders.

If anything, momentum seems to be increasing. The output index of Manufacturing PMI rose to a 21-month high in July and the forward-looking balances were consistent with output rising at an even quicker pace in August.

Of course, not all pockets of manufacturing are soaring. Car makers are struggling and, so far at least, the big talk of more defence spending hasn’t been matched by money on the ground.

But after years of contraction, the strong growth in manufacturing output bodes well for Andy Burnham (and the country!) as he pursues an agenda to reindustrialise Britain and provide more technical training to young people. He will just need to put his money where his mouth is now!

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