Budget 2025 and Fiscal Drag in the United Kingdom: Constraints on the Choice of Tax Instrument

The United Kingdom’s Budget 2025 provides an illustration of how fiscal policy can operate when political commitments and fiscal rules constrain the choice of tax instrument. With the main rates of income tax, national insurance contributions and VAT unchanged, and limited headroom against the fiscal rules on the UK Office for Budget Responsibility’s forecast, the Budget relied heavily on the continued freezing of thresholds and allowances, alongside targeted statutory changes to specific tax bases and reliefs proposed in the Finance (No. 2) Bill 2024–26 (the Finance Bill). This note examines Budget 2025 from the perspective of the existing constraints on the choice of tax instrument. It distinguishes the legal basis of non-indexation from the economic mechanism through which fiscal drag arises as nominal incomes grow and situates this instrument alongside explicit rate and base changes, timing measures and compliance instruments.