Buy Limit vs Sell Stop Orders in Forex: Key Differences Explained

Economic

Summary:

Confused about buy limit and sell stop orders in forex trading? Learn their differences, how they work, and when to use each to enhance your trading strategy effectively.

Forex trading offers traders various types of orders to execute their strategies effectively. Among them, buy limit and sell stop orders are crucial for managing entry points in the market. However, their functions and applications often confuse beginners. This article explores the differences between buy limit and sell stop orders, how they work, and when to use them to enhance your trading results.

What is a Buy Limit Order?

A buy limit order is an instruction to purchase a currency pair at or below a specified price. This type of order is typically used when a trader expects the price to drop to a certain level before rebounding upward.

Example: Assume EUR/USD is trading at 1.2000, but you believe the price will fall to 1.1950 before starting an upward trend. You place a buy limit order at 1.1950. If the price reaches this level, your order will be executed automatically.

Key Features:

Enables buying at a lower price than the current market rate.Ideal for entering trades during pullbacks in an uptrend.

What is a Sell Stop Order?

A sell stop order is an instruction to sell a currency pair once the price reaches a specified level below the current market price. Traders use this order when they anticipate further downward movement after the price breaks a certain support level.

Example:If GBP/USD is trading at 1.3000, and you expect a significant drop if the price falls to 1.2950, you place a sell stop order at 1.2950. Once the price hits this level, your order is triggered, and the position is sold.

Key Features:

Allows selling at a lower price than the current market rate.Useful for capitalizing on momentum during a downtrend.

When to Use a Buy Limit Order

Trading Pullbacks:If a currency pair is trending upwards, a buy limit order helps you enter at a favorable price during a temporary dip.

Support Levels:Place buy limit orders near identified support zones to capitalize on expected price bounces.

When to Use a Sell Stop Order

Breakout Strategies: Use sell stop orders when you expect a currency pair to drop significantly after breaking a key support level.

Trend Continuation: If the market is in a downtrend, sell stop orders allow you to join the trend after confirming further downward movement.

Advantages of Using Buy Limit and Sell Stop Orders

Automation: Both order types allow traders to automate their entries, removing the need for constant market monitoring.

Risk Management: These orders help in managing risk by enabling precise entry points, avoiding emotional trading decisions.

Strategic Execution: Both orders cater to specific trading strategies, ensuring disciplined market participation.

Tips for Using These Orders Effectively

Combine with Technical Analysis: Use support and resistance levels, trendlines, and candlestick patterns to determine optimal order placements.

Set Realistic Levels: Avoid setting buy limit or sell stop orders too far from the current price, as the market may never reach these levels.

Monitor Economic Events: Fundamental factors can cause sudden price shifts, so align your orders with market conditions.

Conclusion

Understanding the difference between buy limit and sell stop orders is crucial for effective forex trading. While a buy limit order allows traders to capitalize on price pullbacks, a sell stop order is ideal for momentum trading in a downtrend. By integrating these orders with a robust trading strategy and disciplined risk management, traders can maximize their market opportunities.

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Risk Warnings and Disclaimers

You understand and acknowledge that there is a high degree of risk involved in trading. Following any strategies or investment methods may lead to potential losses. The content on the site is provided by our contributors and analysts for information purposes only. You are solely responsible for determining whether any trading assets, securities, strategy, or any other product is suitable for investing based on your own investment objectives and financial situation.

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Owen Li

Economic

London is ‘one of the hopefuls’ under consideration for a European funding and trading hub of the Beijing-headquartered Asian Infrastructure Investment Bank, according to Jin Liqun, the bank’s president. In remarks to be broadcast at OMFIF’s third China-UK investor forum in London on 4 December, Jin provides a ringing endorsement of London’s prowess as an international financial centre. Despite the strains of leaving the European Union, he says, ‘The financial services sector represents the UK’s enduring competitiveness.’

‘Brexit certainly poses a challenge to the UK in handling its relationship with continental Europe.’ But Jin sees ‘no indication’ of large-scale moves of financial institutions from London or that ‘its relevance to development banks such as ours will be eroded’. Although more major cities are developing financial services capability, ‘we do not see any sign of the possible waning of the UK’s competitive advantage as a country of robust financial services’.

Strengthening UK-China relationship

Jin, a former supervisory board chairman of China Investment Corporation, the country’s sovereign fund, has presided over the AIIB since its inception in 2016. A strong internationalist with a fondness for doing business with the Anglo-Saxon world, Jin is about to start the final year of a second five-year mandate, which has seen the bank grow to 110 shareholders, led by China. He is due to step down in January 2026.

Setting up a European office for the bank has been under discussion for several years, with Frankfurt and Paris also in the running. As part of the warming of UK-Chinese ties under the Labour government that took office in July, Jin held talks two months ago with Rachel Reeves, UK chancellor of the exchequer, about setting up a London office. No decision has been taken. ‘The final outcome depends on the negotiation with the competing candidates’ cities,’ Jin says.

The AIIB and another China-based international development bank, the New Development Bank, have often been regarded as challengers to the US-led Bretton Woods system and its institutions. The International Monetary Fund and World Bank were set up as a result of an international conference held in 1944 in New Hampshire. Chinese scholars like to recall that China – under the Nationalist government – sent the third largest set of delegates (after the US and UK) to the conference.

Emerging markets are coming to the fore

In his remarks to the OMFIF meeting, Jin pays tribute to the Bretton Woods institutions as upholding the long-term spirit of multilateralism. ‘Institutionalised co-operation on a global scale to promote peace and prosperity’ still holds sway in spite of the ‘great changes since the end of the second world war’.

‘The negotiation of the Bretton Woods system was mainly the drama played out by the UK and US.’ Other countries were ‘back-benchers and had little role to play’. But now, Jin says, China and other developing countries are coming to the fore. ‘The emerging market economies are already carrying more weight in a global economy, and back-benchers are moving to the front seats, to the front-benches. This does not feel comfortable, but people will have to face the reality, and both sides need to take a constructive stance in managing the process.’

Jin extols the role of the UK and other developed countries in helping establishment and growth of the AIIB. ‘The UK’s role was spectacular. After the UK declared its commitment to participating in a negotiation of the articles of agreement, all the other European countries followed suit. At that time, I said that, once again, the Chinese saw the great power of Great Britain. The power of a country is not just its economic might. Rather, it’s the soft power. It’s the leading role in promoting an initiative which is expected to serve the broad interest of the members of the international community.’

Turning to general UK-Chinese ties, Jin acknowledged sources of ‘complication, conflict and confusion’ in the bilateral relationship. ‘This is not something that can be overlooked. The difficult part is there for everyone to see, but it makes sense to look at the upside, not just the downside. When attention is focused on areas of co-operation, it is not hard to identify vast scope.’

Source:David Marsh

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HSBC

Economic

Forex

The RBNZ delivered a 50bp cut in November, as widely expected

On 27 November, the Reserve Bank of New Zealand (RBNZ) cut its policy rate by 50bp to 4.25%, in line with market expectations. This was the third straight cut, taking its easing so far to 125bp since August. The RBNZ embraces the idea of a 2025 recovery in economic activity, while seeing inflation to be 2.4% (up 0.1%) in Q4 2025 and 2.1% (up 0.1%) in Q4 2026, but still within the RBNZ’s inflation target range of 1% to 3% (Chart 1).

More RBNZ rate cuts could come in 2025

It is worth noting that RBNZ Governor Adrian Orr gave strong guidance towards a 50bp cut in February 2025, if the economy evolves as expected. The RBNZ also lowered its year-end 2025 policy rate forecast to 3.55% (from its August projection of 3.85%), albeit above market expectations of c3.30%. Our economists see the RBNZ delivering further cuts through 2025, taking the policy rate to 3.25% by end-2025. The NZD jumped c1% against the USD and c0.7% against the AUD after the announcement (Bloomberg, 28 November 2024).

The RBA is likely to keep its policy rate unchanged in December, with the first cut to come in Q2 2025

Beyond the kneejerk reaction, AUD-NZD is likely to face downward pressure amid the relative terms of trade dynamics. From a rate differential’s perspective, monetary policy divergence remains clear between the two central banks, but we see limited room for the divergence in market pricing to extend (Chart 2). Both markets and our economists expect the Reserve Bank of Australia (RBA) to keep its policy rate unchanged at 4.35% at its 10 December meeting. Markets and our economists’ central case is for the RBA to start its rate cut cycle in Q2 2025, but our economists also see a 25% chance that the RBA does not cut at all in 2025.

Both AUD and NZD are likely to face external headwinds in 2025

In 2025, we think that both the AUD and the NZD are likely to weaken against the USD amid external headwinds, such as the rising US terminal rate, potential tariff concerns, and portfolio outflows. More forceful fiscal policy support from China could help, but it may have limited spillover effect through the commodity demand channel. Structurally, China’s importance on the AUD may be declining.

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Economic

Forex

Central Bank

‘Trump trade’ reinforces dollar bulls

The Federal Reserve finally cut interest rates in September, but far from falling, the US dollar embarked on a fresh rally as policymakers dashed hopes of aggressive policy easing. As we head into 2025, there can be no denying about the dollar’s superiority. The greenback is not only being supported by a resilient US economy and persistent price pressures, but also by expectations that the incoming Trump administration will enact polices that will further boost growth and inflation.

Donald Trump’s historic victory in the 2024 presidential election is shaping up to be the defining narrative for financial markets in 2025. But as the dollar and assets such as US equities and cryptocurrencies cheer the prospect of a Republican-controlled Congress, Trump’s return to the White house isn’t being celebrated by everyone.

Leaving aside the risk to countries that will probably be at the receiving end of Trump’s trade tirade, his election pledges, which are deemed to be inflationary, could cause a major headache for the Fed. Expectations that big tax cuts and tariff hikes will fuel inflation have already pushed Treasury yields to multi-month highs, powering the dollar’s rally.

How inflationary will Trump’s policies be?

The question for the 2025 outlook is how quickly the Republicans will be able to push through their tax agenda and how readily will Trump resort to imposing higher tariffs as he begins trade negotiations with America’s major trading partners like the European Union, Mexico and China?

But it’s not just about the timing. With a budget deficit running at more than 6% of GDP and a ballooning national debt, the Republicans could slash spending to pay for their tax giveaways, offsetting some of the boost to the economy from lower taxes.

When it comes to tariffs, it’s yet unclear how far the new Trump administration will go in slapping higher levies on imports, particularly on Chinese goods, which could be in excess of 60%. Trump has a tendency of using scaremongering as a negotiating tactic.

Hence, for the dollar, it’s all about how much has already been priced in and how much that’s yet to be factored in by investors. Any signs that Trump’s election promises will be watered down are likely to be negative for the US dollar during 2025. Similarly, should there be any delays by the newly elected lawmakers in preparing and agreeing to Trump’s legislative agenda, a dollar pullback is a strong possibility.

However, if the Republicans move swiftly with tax cuts and Trump shows his unwillingness to compromise on trade, the dollar will be well positioned to climb towards its 2022 highs when the Fed was hiking rates aggressively.

The Fed’s inflation dilemma

Although the Fed’s tightening days are over and borrowing costs are now falling, the inflation battle is not won and policymakers are wary about lowering rates too quickly. The Fed’s unexpectedly hawkish stance is underscoring the greenback’s bullish outlook. The main concern is that inflation appears to be settling closer to 2.5% instead of the Fed’s 2.0% target.

If this is the case even before Trump has taken office, there’s a real risk that the Fed will not be able to deliver many rate cuts in 2025, while a rate hike cannot be completely ruled out.

Geopolitical risks

Away from domestic politics and Fed policy, the risks to inflation are somewhat tilted to the upside. Assuming there is no nuclear fallout in the meantime, a Trump presidency will probably push for a ceasefire agreement between Ukraine and Russia. However, Trump is likely to take a more hard-line stance against Iran. This risks triggering a wider conflict in the Middle East, especially if it involves tougher sanctions on Iranian oil, or allowing Israel to strike Iran’s oil facilities.

A fresh oil price shock is hardly what the Fed needs when it’s still struggling to tame inflation. As the world’s reserve currency, the dollar also stands to gain directly from risk-off episodes.

Summing up, although there’s not a lot on the horizon that can trigger a massive dollar selloff, its ability to continue marching higher hinges on the actual size of Trump’s tax cuts and tariff increases that will eventually be approved.

Yen’s rollercoaster ride

So where does all this leave the yen? The Japanese currency staged a dramatic recovery over the summer from levels last seen in 1986. The bullish reversal was driven by a combination of policy pivots by the Bank of Japan and the Fed, as well as direct intervention in the currency markets by Japanese officials.

However, the Bank of Japan’s hawkish surprises soon turned to caution and uncertainty about the pace of subsequent rate hikes has been weighing on the yen. But that’s not to say that the yen can’t restore its bullish posture in 2025.

BoJ has one eye on wages

Although inflation in Japan has fallen to around 2.0%, policymakers see upside risks to the outlook from wage pressures as well as higher import costs from the weaker yen and increases in commodity prices. The BoJ is hopeful that next year’s spring wage negotiations will lead to another round of strong pay deals.

The country’s biggest trade union is aiming for wage increases of at least 5.0%. Such an outcome could pave the way for the BoJ to hike rates to 1.0% by the end of 2025.

Yield differentials matter

However, even if borrowing costs do rise to 1.0% or higher, yield differentials with the US might not necessarily narrow much if the Fed finds itself with very limited scope to trim its rates. Hence, whilst the BoJ may catch some investors off guard with its determination to normalize monetary policy, any yen rebound will depend as much on Fed policy as on domestic policy.

Still, with uncertainty hanging over the global economic outlook due to the elevated geopolitical tensions and Trump back at the White House, safe haven flows could also be the yen’s saviour in 2025.

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CEPR

Economic

The traditional 20th century path to development involved manufacturing-led growth and a shift from agriculture to manufacturing. Over the past decades, however, manufacturing's share of value added has declined across most emerging economies, particularly in Eastern Europe and Central Asia. This reflects both global competitive pressures and a trend of premature deindustrialisation (Nayyar et al. 2023). With China accounting for 35% of global manufacturing production in 2020 (up from 5% in 1995), newcomers face stiff competition in establishing manufacturing bases (Baldwin 2024a).

At the same time, the rise of digital technologies, improved infrastructure, and fewer policy barriers have made services more tradeable across borders, with the cost of services trade dropping by 9% between 2000 and 2017 (WTO 2019). Within services, digitally enabled, tradeable services – especially global innovator services such as information and communication technology (ICT) services, financial services, insurance services, professional services, and scientific and technical services – have a high growth potential (Baldwin, 2024b). In recent work (EBRD 2024), we document the shift to the service sector and discuss policies to support the shift towards high value-added services.

Is manufacturing export-led growth still possible?

While data suggest that growth is often still export-led, it is now more likely to be led by exports of services (Figure 1). Our analysis shows that, since 2008, EBRD economies in the EU have increasingly shifted toward services-led growth, and in a significant percentage of other EBRD economies growth has become less likely to be led by manufacturing exports. In other emerging market economies, growth is now almost as likely to be led by services exports as non-export-led.

This shift toward service-led growth has been enabled by digital technologies making services more storable, codifiable, and transferable, reducing the need for the producer and the consumer to be in close proximity at the time of delivery, as well as improving their linkages to other sectors. Global innovator services, in particular, can be traded internationally through remote cross border delivery, they mostly employ skilled workers, and they have strong links to other domestic sectors. While they typically do not yet account for most value added in the service sector in emerging Europe, several economies have positioned themselves as major exporters of computer and information services. Estonia, Ukraine, Serbia, Armenia, North Macedonia, and Moldova were among the world's top ten exporters of computer services relative to GDP in 2022, alongside established tech hubs like Israel and India. These countries have leveraged their strong technical education systems – a legacy of their communist past – to develop competitive advantages in IT services.

The Rise of Services Exports: New Pathways for Growth_1

Strong governance and high human capital are required for service export-led growth

Not all countries are equally well-positioned to pursue service-led growth. Economies with stronger governance, more educated workforces, and more liberalised service sectors are better able to succeed in high-value service exports (Figure 2). While many EU member states have both the human capital and institutional capabilities required, other economies face varying challenges. Countries like Jordan, Kazakhstan, Moldova, Serbia, and Ukraine could benefit from improving their regulatory environments, while Egypt, Morocco, Tunisia, and Türkiye confront a dual challenge: they must enhance both their skills base and institutional frameworks to fully leverage services export opportunities.

The Rise of Services Exports: New Pathways for Growth_2

Services are increasingly vital within manufacturing itself

In advanced European economies, service-related occupations accounted for 55% of all manufacturing-sector occupations in 2019, up from about 45% in 2000. This ‘servicification’ of manufacturing reflects the growing importance of pre- and post-production activities such as R&D, design, marketing, and after-sales services. Hungary, where participation in global value chains (GVCs) accounts for 62% of gross exports, provides an insightful case study (Bisztray et al. 2024).

Between 2008 and 2019, the share of goods exports accompanied by services from the same firm grew by 20 percentage points. This growth was driven primarily by foreign-owned manufacturers, with two-way traders in goods and services accounting for 17.5% of foreign-owned firms versus just 0.7% of domestic firms by 2019 (Figure 3). These firms often bundle manufactured products with complementary services such as engineering or maintenance, potentially moving up the value-added ladder. The data also show significant clustering of service-exporting firms in urban areas with strong skill bases, particularly Budapest, which hosts numerous R&D centres and shared service facilities for multinationals like Deutsche Telekom, IBM, and Thyssenkrupp.

The Rise of Services Exports: New Pathways for Growth_3

How can we foster a shift to productive services?

The policy-light approach that worked for the shift from agriculture to manufacturing – no significant investment in workers’ skills or wide-ranging improvements to governance and regulatory frameworks – would not work as well now. Automation has reduced the benefits of having plenty of cheap unskilled labour, while innovation in manufacturing is increasing demand for specific skills (Rodrik and Sandhu 2024). Moreover, global innovator services such as ICT services and business process outsourcing require skilled labour, investment in physical capital, technology and innovation, as well as strong infrastructure, robust economic institutions and a conducive business environment (Atolia et al. 2020).

The liberalisation of trade in services may allow economies to target some low-hanging fruit in terms of facilitating a structural shift towards services with higher value added. Our analysis shows that while market access is important for service exports, liberalising your own service market has a greater impact than trade barrier reductions in destination countries. Gravity estimates suggest that reducing domestic restrictions on services trade could boost service exports by approximately 9%. For digital services specifically, the impact could be even larger, with relaxation of digital trade restrictions associated with increases in service exports of up to 20%. Adopting clear and transparent regulatory frameworks, such as GDPR-equivalent data protection legislation, can also facilitate cross-border trade in services by aligning standards and reducing compliance costs for firms operating internationally.

Other targeted industrial policies, such as investment promotion, can support the shift towards high-value-added services, but their effectiveness depends critically on state capacity. In 2023, the EBRD conducted an online survey of investment promotion agencies (IPAs), gathering data on the sectors targeted, the strategies employed and the timing of the relevant initiatives. The information collected was combined with data from the FT fDi Markets database – a project-level dataset on FDI projects – to assess the effectiveness of sector-targeting policies.

The results show that on average, sector targeting policies have significant positive effects: Ten years after implementation, targeted sectors see 2.8 times as many FDI projects as non-targeted sectors. However, Figure 4 shows that the positive effects are driven entirely by service-related projects (such as R&D centres, business services, and ICT infrastructure) in countries with relatively higher levels of state capacity, with the latter measured through indicators of government effectiveness, regulatory quality and rule of law (O’Reilly and Murphy 2022). Countries with weaker state capacity see no significant differences between targeted and non-targeted sectors, and there is no significant impact on manufacturing-oriented investments regardless of state capacity.

The Rise of Services Exports: New Pathways for Growth_4

Conclusions

For policymakers looking to promote structural transformation toward high-productivity services, three main lessons emerge. First, fundamentals matter – investment in education, digital infrastructure, and governance are essential prerequisites.

Second, lowering restrictions on trade in services can boost service exports, particularly for digitally enabled services. However, this doesn't mean eliminating all regulation – clear frameworks like GDPR-equivalent legislation can facilitate trade by establishing transparent rules.

Third, while targeted industrial policies like investment promotion can work, their effectiveness depends heavily on state capacity and pre-existing capabilities. Countries should therefore sequence reforms carefully, building fundamental capabilities before pursuing more activist policies.

The transition to service-led growth presents both opportunities and challenges for emerging economies. While the traditional manufacturing-led development path may be narrowing, new digital technologies and the growing tradability of services are creating alternative routes to high-productivity employment and economic growth. Success will require careful policy choices and sustained investments in human capital and institutions over the medium term.

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IFS

Economic

The funding position for 2024–25 has been transformed

In December 2023, when the Scottish Budget for 2024–25 was set, total resource funding in 2024–25 was expected to be £47.6 billion. Of this, £6.3 billion was expected to be spent on social security and £265 million used on debt service, leaving £41.1 billion available for public service spending. Table 1 breaks down the sources of resource funding in more detail.

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_1

Since the Scottish Budget was set, the funding available to the Scottish Government for this year has increased.

Changes in funding up to the Autumn Budget Revision (ABR), published on 2 October (before the UK Government’s Autumn Budget) increased the amount available for day-to-day (resource) spending on public services by £1.2 billion. As we will discuss below, this was used to help address pay and other pressures facing the Scottish Government.

Some of the increase in funding was due to changes in UK government funding. At the UK Spring Budget in March 2024, additional spending on some devolved areas (predominantly health and local government) generated Barnett consequentials for day-to-day spending of £293 million. At Main Estimates in July 2024, an additional £437 million of resource Barnett consequentials were allocated. This additional funding largely represented the higher assessed costs of unfunded public sector pensions. These costs will also need to be met by public sector employers in Scotland, so this funding does not increase the real spending power of the Scottish Government.

The new UK government’s July 2024 decision to restrict winter fuel payment to only pension credit recipients from this winter led to a reduction in funding for the Scottish Government of around £140 million. The Scottish Government has said it will replicate this policy, meaning that the amount of funding available for public service spending will ultimately be little changed. However, if it wanted to, the Scottish Government could choose to defer the reduction in funding (given the UK government’s policy decision was made after the 2024–25 Scottish Budget was finalised), which would allow it to spend that money elsewhere in the short term, but it would need to be paid back later on. We understand a final decision on this has yet to be made, but the funding figures published at the ABR assume the funding adjustment will be applied in-year rather than deferred. Forecasts for other social security block grant adjustments (BGAs) and spending, and tax BGAs and revenues, were not updated at the ABR.

Scottish Government decisions also increased the funding available for day-to-day spending this year. These decisions included: an increase in planned drawdown of ScotWind – one-off income from leasing the Scottish seabed for windfarms – from £200 million to £424 million; the planned drawdown of £162 million in reserves, following underspends in 2023–24; and the cancellation of a planned £89 million transfer from its resource to capital budget.

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_2

The announcements made by Rachel Reeves in the UK Budget on 30 October led to a further big increase in funding for the Scottish Government this year: just under £1.5 billion in total. Of this, around £1.4 billion reflected Scotland’s population share of increases in spending announced for England via the Barnett formula. There was also £35 million of additional non-Barnett funding.

The combined effects of changes made in Scotland’s ABR and the UK’s Autumn Budget have improved the Scottish Government’s resource funding position this year.

Based on the latest inflation forecasts, the amount available for day-to-day spending on public services as of the original Scottish Budget plans would have been 0.6% lower in real terms than was spent last year. The top-ups announced in the ABR changed this to a 2.3% increase, while the further top-ups as a result of the UK Budget, if spent in full, would mean an increase of 5.9%. Some of the top-ups reflect SCAPE funding for higher assumed pension costs – and so not a genuine increase in spending power – but even stripping this out the increase would be around 4.9%.

The Scottish Government could choose not to spend all the resources now available to it – which the more difficult financial outlook for future years means may be wise. If it chose to use around a third of the extra funding confirmed in the UK Budget to cancel planned drawdowns of ScotWind proceeds, the increase in the amount available to spend (after stripping out SCAPE funding) would be 3.8% in real terms. If instead, half of the extra UK government funding were effectively banked (allowing the cancellation of ScotWind drawdowns and a small payment into rather than drawdown from reserves), the spending increase this year would still be 3.1% in real terms.

Spending changes have been made to address pay and other pressures

As with funding, the initial plans for public service spending set out in December in the 2024–25 Budget implied a real-terms cut in spending compared with the final budget and out-turn for 2023–24. The changes made in the ABR mean this is no longer the case, although different services have fared differently, as shown in Figure 2. Further changes (including the use of funding confirmed in the UK Autumn Budget) will be officially confirmed in the Scottish Government’s Spring Budget Revision (SBR) – although an update may be given alongside the Budget for 2025–26 next month.

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_3

The changes in planned spending reflect the Scottish Government’s efforts to address significant in-year spending pressures – most notably related to public sector pay deals. Such pressures were highlighted by the UK Chancellor in her ‘Spending Audit’ published in July, and a particular challenge in Scotland given relatively higher public sector employment and pay. As part of these efforts, the Scottish Government published a fiscal update in September, setting out plans to reallocate around £250 million from existing budgets, specifying in detail where around £188 million of this would be found. Some of these changes were accounted for in the ABR, but some will not be reflected until the SBR.

All told, the ABR increased spending on public services by £1.2 billion (mirroring the increase in funding), and reduced spending on social security benefits by £148 million following the decision to follow the UK government’s decision to restrict eligibility for winter fuel payment to those receiving pension credit.

The Health and Social Care portfolio saw by far the biggest boost to spending in the ABR, with its resource budget increased by £1.1 billion. Of this, around £0.2 billion represented funding for increased SCAPE costs, meaning the ‘real’ increase available for other pressures, including higher pay costs, was £0.9 billion. As we highlighted at the time of the Scottish Budget, a significant top-up to health spending was always likely as the original plans implied a cut in spending. Rather than falling by 1.4% in real terms compared with what was spent in 2023–24, the updated plans imply a 3.2% real-terms increase.

The Finance and Local Government portfolio also saw a top-up, of £155 million. After stripping out the £86 million that is for additional SCAPE costs, its spending is still set to fall slightly (by 0.6%) in real terms compared with 2023–24, although it is worth noting that councils also receive funding from other portfolios and council tax, and so their overall funding is set to grow in real terms. Top-ups were also made to the Justice and Home Affairs portfolio leaving its budget 1.2% higher in real terms than spending in 2023–24, after stripping out additional SCAPE costs.

Other areas mostly saw little change or cuts to their budgets in the ABR. There were cuts to the Net Zero and Energy (£20 million), Rural Affairs (£10 million) and Education (£7 million) portfolios, reflecting savings announced in September. However, spending on all these portfolios is still planned to be higher in real terms than the amounts spent in 2023–24. The Social Justice portfolio saw the biggest reduction in total funding at the ABR (£160 million), mostly due to the restriction of pension age winter heating payment to those receiving pension credit. The Social Justice portfolio stripping out social security spending is set to fall compared with 2023–24.

Further substantial top-ups are likely in the SBR, with initial information on the likely scale and nature of these potentially provided alongside the Budget for 2025–26. It seems likely that the Health and Social Care portfolio will see a further top-up, with each £190 million generating a further 1 percentage point increase. Another key decision will be whether to ‘undo’ some of the cuts announced in the September fiscal update.

Capital funding this year is similar in real terms to Scottish Budget plans

Our focus so far has been on day-to-day (resource) funding and spending. There have also been increases in the capital funding available to the Scottish Government this year since the initial Budget was set, but these are much more modest in scale. As a result, an increase in forecast whole-economy inflation since the Budget (from 1.7% to 2.4%) means that capital funding this year is little changed in real terms compared with what was expected at the time of the Scottish Budget – in stark contrast to the situation for resource funding.

The UK Budget substantially topped up funding next year and beyond

Turning to the future, the UK’s Autumn Budget set the Scottish Government’s block grant funding for 2025–26 for the first time. However, at the time of its 2024–25 Budget, the Scottish Government made projections of block grant funding, which informed the Scottish Fiscal Commission’s (SFC’s) overall projections for Scottish Government funding. These assumed that the block grant for day-to-day (resource) spending would grow in line with UK-wide resource spending limits – which at that time meant growth of 2.3% in cash terms between 2024–25 and 2025–26 – and implied a block grant of around £38.3 billion in 2025–26. The capital block grant was instead set to stay flat in cash terms, implying real-terms falls in each year.

The UK Autumn Budget confirmed substantially larger block grants for both day-to-day (resource) and capital spending next year: £41.1 billion and £6.5 billion, increases of £2.8 billion (7%) and £0.9 billion (17%), respectively, compared with the expectations set out in the 2024–25 Scottish Budget last December. However, as with funding in 2024–25, part of the increase in resource funding (around £0.3–0.4 billion) reflects extra SCAPE costs rather than an increase in spending power. And these figures exclude compensation for Scottish public sector employers for the big increase in employer National Insurance contributions announced for April 2025. It is currently unclear whether the Scottish Government’s share of compensation will be based on the Barnett formula, or its higher-than-population share of the public sector wage bill. If it is the former, some of the general increase in block grant funding would have to be used to part-fund higher employer National Insurance bills.

Updated figures for the Scottish Government’s other sources of funding – such as net income from devolved taxes, and the use of borrowing and reserves powers – are not yet available. But some assumptions allow us to project scenarios for overall funding, in order to provide a sense of the potential budgetary trade-offs that will be faced by the Scottish Government in its forthcoming and future Budgets.

The first element of our projections is devolved income tax. While forecasts of the net proceeds of income tax (revenues minus the BGA) will not be updated until the upcoming Scottish Budget, some new information has become available. In particular, out-turn figures for revenues in 2022–23 mean that the Scottish Government will receive a £447 million reconciliation payment in 2025–26 as a result of initially pessimistic forecasts of the net income tax position in 2022–23. This is good news but less good news than the SFC was forecasting last December, when it expected a reconciliation payment of £732 million.

Most of this difference reflects two errors with the HMRC statistics the SFC had previously been using to forecast reconciliation payments. It is currently unclear how far we should expect these issues to affect the net income tax position in subsequent years, and other factors – such as updates to employment and earnings forecasts in both Scotland and the rest of the UK – will also have a bearing on new forecasts of the net income tax position. But a plausible assumption is that the net tax position will similarly be £285 million less positive in subsequent years than forecast by the SFC last December. Taken together, this means total revenue from income tax would be £570 million lower in 2025–26 than last forecast – with half of this due to a lower reconciliation payment and the other half due to lower in-year revenue forecasts.

We then assume all other elements of funding for day-to-day (resource) spending will be unchanged on a net basis (so, for example, any changes in other tax and social security BGAs are offset by changes in associated revenues and spending). These other elements are likely to change somewhat but, given they could be higher or lower than previously projected, assuming they are unchanged seems like a reasonable baseline assumption.

On this basis and as shown in Figure 3, overall funding for day-to-day (resource) spending on public services would be £45.0 billion in 2025–26, up from the £42.7 billion projected last December (again noting that £0.3–0.4 billion of this increase reflects SCAPE costs). This would be a cash-terms increase of 2.8% and a real-terms increase of 0.4% compared with the current financial year if the Scottish Government chose to utilise immediately all of the additional funding provided in the Budget for 2024–25, rather than carry forward some for future years.

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_4

The UK Autumn Budget did not provide figures for the Scottish block grant (or indeed any individual department) for years after 2025–26. These are due to come in a Spending Review in late spring 2025. But it did set out overall resource and capital spending envelopes and, with assumptions about how these will be allocated, it is possible to project forward the block grant. In particular, let us make the same assumptions used in the IFS’s post-Budget analysis of the trade-offs facing the Chancellor in the upcoming multi-year Spending Review: that English NHS spending is increased by 3.6% a year in real terms, an expansion of childcare provision in England continues as planned, and commitments on defence and overseas aid spending are just met. On this basis, the block grant would increase by an average of 2.8% a year in cash terms or 0.9% a year in real terms between 2025–26 and 2028–29. This is a little slower than the overall growth in resource funding across the UK during these years (1.3% a year in real terms), reflecting the so-called ‘Barnett squeeze’ (because Scotland’s funding per person is higher than England’s, a population-based share of the funding increase in England translates into a smaller percentage increase), as well as the extent to which the protected areas of spending are ‘Barnettable’.

Based on these block grant projections, together with projections for other elements of funding made on the same basis as for 2025–26, Figure 3 shows projections for the Scottish Government’s total funding for day-to-day (resource) spending on public services. Funding would increase to £48.6 billion by 2028–29. This compares with an SFC projection made last December at the time of the 2024–25 Scottish Budget of £45.8 billion (although note again that £0.3–0.4 billion of this increase relates to SCAPE costs).

The projections also imply increases in funding between 2025–26 and 2028–29 that average 2.6% a year in cash terms and 0.7% a year in real terms. This compares with increases of 0.4% a year in real terms implied by the SFC’s forecasts as of last December. Top-ups to overall UK government capital spending plans mean that capital funding for the Scottish Government may grow a little in real terms between 2025–26 and 2028–29, rather than fall. But growth will be much slower than the bumper increase now planned for next year.

But very tough choices still loom

These projections are subject to significant uncertainty, with future funding levels potentially billions of pounds higher or lower because of revisions to forecasts and new policy decisions by the UK and Scottish Government. But the projections do demonstrate two key points: first, that funding in future years is now likely to be higher than expected this time last year, driven by increases in UK government funding confirmed in the Autumn Budget; and second, that despite this, tough choices on tax and spending in future years still loom for the Scottish Government.

These tough choices are illustrated in Figure 4, which shows the implications for other areas of day-to-day (resource) spending of different choices for spending on the Health and Social Care portfolio – the largest single area of Scottish Government spending. The top panel illustrates trade-offs in 2025–26, while the bottom panel illustrates trade-offs in the three years to 2028–29.

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_5

The UK Budget Has Improved the Scottish Funding Outlook, But Tough Choices Loom Down the Line_6

The first two sets of columns in each panel show scenarios based on our baseline projections for resource funding set out in Figures 1 and 3 and an assumption that all funding for 2024–25 confirmed in the UK Budget is ultimately spent this year. Increasing the Health and Social Care budget by 3.6% a year (in line with our previous assumption for England) would require a real-terms cut to other areas of spending of 2.3% in 2025–26 and an average of 2.2% a year in the following three years. However, as discussed in IFS research earlier this year, the last plans for the NHS workforce in Scotland were much less ambitious than those planned in England, and health spending has grown by less in Scotland than in England over the last two decades. If the Health and Social Care budget was increased by 2.0% a year in real terms, the cut to other areas would be 0.9% next year and an average of 0.5% a year in the following three years.

The last two sets of columns in each panel show the implications of the same scenarios for health spending based on alternative projections for resource funding that assume that the Scottish Government utilises only half of the increase in resource funding announced in the UK Budget this year, with a quarter used in 2025–26 and the remaining quarter split equally across the following three years. With 3.6% increases in Health and Social Care spending, spending on other areas could increase by 2.4% in real terms in 2025–26, but would need to be cut by an average of 2.4% a year in the following three years. With 2.0% increases in Health and Social Care spending, other areas could increase by even more in 2025–26, but still need to be cut back somewhat in subsequent years.

These figures are of course illustrative, but they show that the Scottish Government looks set to continue to face tough trade-offs in future years. Carrying forward funding would ease trade-offs between services next year. But such funding can only be used once: it will only help the budgetary pressures facing the Scottish Government in later years if it is successfully utilised to help boost productivity, address the drivers of service demand, or boost economic performance and hence tax revenue. Even if successful, such efforts may take several years to bear fruit, meaning without further top-ups to UK spending plans and/or increases in Scottish taxes, some services will likely face cuts in future years.

What can the Scottish Government do?

In this context, the Scottish Government should plan realistically – recent years have seen something of a habit of over-promising and then delaying or scaling back some initiatives in order to free up funding for pay and NHS pressures. Plans for next year will be set in the upcoming Scottish Budget, and plans for later years should be set in a Spending Review in the summer, aligned with the time frames set out in the UK-wide Spending Review planned for late spring. It may be tempting to use these to offer some pre-Scottish election ‘goodies’, but the difficult medium-term funding outlook means continuing with them post-election could mean higher taxes or cuts elsewhere.

If it feels able to, it may be wise for the Scottish Government to ‘bank’ some of the increase in funding this year (by drawing down less from reserves and ScotWind proceeds, for example), to invest in skills, technology and other ways to boost public sector productivity or more generally to grow the economy. And on the capital side of its budget, it could use its borrowing and reserves powers to smooth out the profile of capital spending over the next few years – money will likely be better spent with a bit more time to plan.

The Scottish Government should also evaluate key policies that increasingly differentiate it from the rest of the UK – including its higher public sector pay and income tax policies and wider tax strategy. Alongside the new decisions announced by the Scottish Government in its Budget, these are issues we will return to in our main post-Budget report.

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Risk Warnings and Disclaimers

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Central Bank

Change guidance of policy restrictiveness

Since last year, the ECB has included a reference that it aims to keep monetary policy ‘sufficiently restrictive’ for as long as necessary. Following the disinflationary process that has gained traction through 2024, the updated staff projections next week are likely to forecast inflation on target from 2025 and onwards. Thus, whether monetary policy should stay restrictive is likely going to be debated. We believe that the slightly hawkish bias in the ECB’s communication is set to change as the need for a restrictive monetary policy stance in the Eurozone is no longer obvious. But the camps inside the GC are obviously divided. In a recent interview the ECB’s Schnabel said that in her view the restrictive part of the monetary policy stance is already fading. At the same time, we see the dovish camp, for example Villeroy, saying that there ‘won’t be any reasons’ for policy to remain restrictive.

A 25 or a 50bp rate cut? It is not the most important question

With activity indicators looking bleak heading into 2025, the case for a 50bp rate cut has strengthened, as the starting-point for financial conditions is restrictive based on most measures. However, given the ECB’s sole inflation mandate, and the ‘political’ aspect of having a gradual rate cutting cycle, we believe it will favour a 25bp rate cut.

However, whether the ECB will deliver a 25bp rate cut or 50bp rate cut in December is not that important in isolation, as the communication around it will be key as well. There seem to be diverging views on how to cut the cake. Most recently, Schnabel’s interview clearly suggested that she would opt for a 25bp rate cut, as would Vujcic, while others such as Lane, Villeroy and Centeno are more open to discussing a 50bp rate cut.

That said, rather than focusing on the rate cut next week, we should focus on where the policy rate will end in this cutting cycle, albeit we do not expect any verbal guidance on this. Markets may though interpret a 50bp cut as a signal of a lower terminal rate – and that may even be a signal that the ECB wants to send.

But as we do assume the ECB does not want a hawkish reaction from markets, leading to tighter financial conditions, we expect it to opt for a dovish 25bp cut, focusing on the communication on a potential jumbo cut.

Macro data since the October meeting has mainly given ammunition to the doves

Since the October meeting, the momentum in underlying inflation has fallen further and growth indicators have weakened. The composite PMI indicator declined sharply to 48.3 in November mainly driven by the service sector, which is now also in contractionary territory. Data indicates that the eurozone’s two largest economies, Germany and France, are likely to contract in Q4 while Spain should drive aggregate euro area growth together with Portugal and Greece. The deteriorating growth indicators combined with rising political uncertainty since the October meeting have mainly given ammunition to the dovish members of the ECB. However, the hawks’ last battalion, namely the labour market, continues to show resistance with the unemployment rate remaining at a record low of 6.3% in October and the national account data showing increased employment in Q3.

Underlying inflation has eased further

While headline inflation has increased from the three-year low in September, mainly reflecting base effects, the underlying momentum has continued to ease. The average month-on-month increase in seasonally adjusted core inflation has been 0.14% in the past three months, which is well in line with 2% annualised inflation. Importantly, the lower momentum in underlying inflation has been driven by service inflation where momentum is also quickly approaching the 2% target, according to the ECB’s own seasonally adjusted data. Hence, inflation developments have clearly also supported the doves in the ECB. For the hawks, an argument for a cautious cutting approach is wage growth that remains elevated given the tight labour market. Negotiated wage growth increased to 5.4% y/y in Q3, albeit largely driven by one-off payments, and has averaged 4.6% so far this year, compared to 4.4% in 2023.

Staff projections to show lower growth and inflation

We expect the ECB staff to take note of the recent easing in the momentum of underlying inflation and incorporate this into a lower forecast for core inflation next year relative to the forecast in September. We expect core inflation to be revised down to 2.2% y/y in 2025 (from 2.1%) and headline inflation to 2.1% y/y (from 2.2%). Oil futures were 6% lower at the cut-off date for the staff projections compared to December, but gas and electricity futures were higher, so we expect only a marginal reduction in the headline forecast. We expect the growth forecast to be revised down in 2025 to 1.1% y/y from 1.3% y/y due to the continued struggles in the manufacturing sector combined with cautious consumers and a weak German economy. In contrast to the ECB’s previous projections, consumers continue to have an elevated savings rate, which prevents consumption from picking up in the near term. The new staff projections will also include an additional year, albeit we do not attach significant weight to those projections given their embedded uncertainties.

Limited FX market reaction on 25bp rate cut

Speculation around a 50bp cut has diminished, with markets now largely positioned for a 25bp move, with only 27bp priced in. However, the post-decision communication will be crucial, given divisions within the Governing Council that could drive a range of market responses.

We view a dovish 25bp cut, where the ECB signals flexibility to adjust the size of future cuts, as the most likely scenario. Such an outcome would likely have a limited impact on EUR/USD, and with the probability of a jumbo cut still being priced in markets. However, should the ECB indicate a preference for continuing the easing cycle in 25bp increments, market pricing could shift, potentially triggering a hawkish response and a moderate EUR/USD rally, albeit given the meeting-by-meeting approach and thereby keeping full flexibility about future monetary policy decisions, we see that as a low probability outcome. By contrast, a 50bp cut – an outcome we believe is underappreciated despite weak euro area growth and inflation – would likely prompt significant EUR depreciation, with EUR/USD potentially dropping sharply.

Looking ahead, the Fed’s December meeting is likely to have a more decisive impact on EUR/USD’s near-term trajectory, with Friday’s US jobs report a critical input. While markets currently assign a decent probability to a Fed pause, we expect a 25bp cut. If this materialises, it should help contain further EUR/USD downside into year-end. Seasonal trends and our short-term valuation models support this view, as EUR/USD appears oversold after its sharp decline since October. We expect the pair to close the year at around 1.06.

From a strategic perspective, we maintain our bearish EUR/USD outlook, driven by the relatively stronger US growth narrative. Our 12M target remains 1.01, making parity a plausible level over the coming year. On the rates side, we note that the significant decline in rates over the past month has brought the spot level for long swap rates close to our 12- month forecast, thus offering a very limited declining profile from here, see more in Yield Outlook – Transatlantic decoupling but not for much longer, 28 November 2024. We do not expect a signal from the ECB to address the French spread widening to peers.