PPPs in perspective, by Mark Hellowell

18 Aug 05
Support for the Private Finance Initiative could be about to plummet if the Office for National Statistics gets its way. The statisticians plan to remove the scheme's big advantage: invisible public spending

19 August 2005

The balance of probability

Support for the Private Finance Initiative could be about to plummet if the Office for National Statistics gets its way. The statisticians plan to remove the scheme's big advantage: invisible public spending

Government accounting procedures are about to change, and in a way that could spell trouble for the Private Finance Initiative. National statisticians believe investment undertaken through the PFI should show up on the Treasury's borrowing figures — in contrast to current practice.  

The change, which is set to be finalised by the end of this year, will add billions of pounds to the public sector net debt (PSND) calculation. This will make it much harder for Chancellor Gordon Brown to meet his fiscal rules, and undermines one of the key motivations behind the use of this controversial financing method.

The chancellor's 'sustainable investment rule' states that the PSND should remain below 40% of gross domestic product.

And, by using the PFI instead of conventional funding, Brown was able to shave £13.7bn from the PSND figures for 2003/04, reducing the percentage of debt to GDP by 3.5%. This in turn reduced the PSND from 36.3% to 32.8%.

The changes being mulled over by the Office for National Statistics will trim the scale of this reduction. Currently, the PSND figure is compiled from annual cash deficits and surpluses, which do not include capital expenditure delivered through private financing - irrespective of whether the investment is on- or off-balance sheet.

Thus, even on-balance sheet public-private partnerships, such as the three London Underground infracos and the major investment programme on the national roads, are omitted from the calculation.

Under the change, a portion of the on-balance sheet investment - the element known as the 'imputed financial lease loan' - will now score against the PSND calculation.

Exactly how this is to be done is a complex matter, and the ONS intends to take its time before reaching a decision.

The Treasury believes the change will result in an increase of around 1% to the PSND figure, and will therefore, have 'only a very marginal effect' on the fiscal rules.

This year's Budget anticipates a PSND figure for 2005 of 35.5%. The Treasury doesn't expect this figure to rise much above 37% by the decade's end.

But Treasury forecasts can be wrong. The figure for the PSND has risen sharply over the past 12 months. It rose by £40bn between April 2004 and April 2005. 

Should government revenues fall below Treasury forecasts - and most economists predict that they will - the effect of the additional private investment could be problematic.

A less than expected tax yield for one year, coupled with the start of a number of significant construction projects, could bring the PSND perilously close to 40%.

Of course, should that happen, Brown might feel justified in changing his rules, which have a political rather than economic significance: the 40% figure is roughly the one Labour inherited from the Conservatives in 1997.

Brown would not lose the respect of economists should he amend the rule. Almost all economists forecasting a revenue shortfall have suggested this option to the government. Even the International Monetary Fund said: 'It will be worthwhile to review the operation of the fiscal rules as the cycle comes to a close.'

Brown himself appears to have left his options open. Giving evidence to the Treasury select committee last year, he said: 'We are continuously looking at how we can improve the fiscal framework. You have to balance-off the need for continuity, so that people understand that you have a disciplined framework, with the desire for change.'

However, breaking through the public borrowing ceiling could seriously harm the chancellor's reputation for prudence among the general public and the media - a key concern for this putative successor to Prime Minister Tony Blair.

And adjusting the time-frame of the economic cycle, as Brown has recently done to create extra leeway for meeting his 'golden rule', does not help him with his fiscal restraints, which are calculated on annual figures.

The Treasury has said that the ONS changes 'should not' affect the level of PFI investment. But the fiscal incentive to use the PFI has been an important factor in the Treasury's interest in the concept since the adoption of the policy by the Tories in 1992.

The erosion of this fiscal advantage is sure to have an impact on the commitment of ministers and officials to this politically contentious form of investment.

The next few months will tell us much about the effect of the change on the flow of new PFI projects, and the willingness of the Treasury to consider other funding options.

Mark Hellowell is editor of Public Private Finance