30 January 2009
A freeze on departmental spending is predicted by researchers at the Institute for Fiscal Studies, based on the overall public expenditure squeeze detailed in last year’s Pre-Budget Report
As the economic crisis deepens, the government’s spending plans are increasingly coming under fire. In particular, the Conservative Party has ditched its commitment to match the Labour government’s future spending plans if it came to power.
Conservative leader David Cameron has said that the government’s plans will not keep finances at a sufficiently ‘responsible level’ as the economy recovers. However, the November Pre-Budget Report contained considerable downward revisions to future spending plans, which might imply a bigger squeeze on public services than either the Conservatives or the government have so far suggested.
The Treasury now thinks that, as a result of the economic crisis, the UK as a whole will be permanently poorer than previously expected. The PBR announced a scaling back of previous spending plans to avoid the public sector being forever larger relative to the rest of the economy. So the public sector will not escape unscathed. But how severe will the pain be?
The plans announced in the PBR for 2011/12 to 2013/14 – presumably the next three-year Spending Review period – are tight. Total spending is expected to grow at just 1.1% a year in real terms, which is less than a third of the average growth Labour has produced under its Spending Reviews to date. It is also less than the average growth under the previous Conservative governments from 1979–1997. Total public spending would be reduced by 2.5% of national income over the three years if the government stuck to these plans.
But even this figure probably understates the future squeeze on public services. The implications of lower total spending growth for government departments depend on how fast non-departmental spending needs to grow. The largest component of the latter is social security and tax credit expenditure.
Based on previous official estimates, a reasonable projection for the growth of social security and tax credit spending over this period is 1.7% a year in real terms – though it is possible that the former will be lower over this period if the economy is recovering from the recession and spending on unemployment benefits is falling.
But 1.7% a year does not allow for re-linking the Basic State Pension to earnings from April 2012. Given the current outlook for the economy and public finances over the next few years, it seems likely that whichever party is then in power might choose to postpone this until 2015.
The other significant component of non-departmental spending – more so over the coming years than recently – will be the cost of servicing government debt. This burden will increase over this period as the recession leaves its mark on tax revenues and social security costs. The government’s own projections in the PBR show that spending on net debt interest payments is expected to increase by 7.7% a year in real terms over the next Spending Review period.
Assuming the government’s predictions of social security and tax credit costs are correct, that growth in net debt interest payments is 7.7%, and that growth in all other areas of non-departmental spending is 1.9%, this would imply total non-departmental spending would grow at 2.5% a year in real terms from April 2011 to March 2014.
If non-departmental spending grows at this rate, overall departmental spending would have to remain frozen in real terms over the next Spending Review period for the government to stick to its planned 1.1% increase in total spending.
A real freeze in departmental spending would be a considerable break from the past. With the exception of 2010/11 – which has had lots of its planned departmental spending brought forward into 2008/09 and 2009/10 as part of the government’s fiscal stimulus package – there has not been growth of less than 2% a year in real terms under the current government’s Spending Reviews. As shown in the table opposite, a real-terms freeze would be in stark contrast to the average 4.9% a year real growth in departmental spending produced by Labour since 1999/00, and even the 1.5% a year that is now forecast for the current Spending Review period.
No department is likely to be able to avoid such a spending squeeze. If the pain was shared equally, so that each had the same reduction in their growth rate, only seven departments would maintain positive real growth rates, including: Children, Schools and Families; Health; Energy and Climate Change; Cabinet Office (intelligence agencies); and International Development.
This belt tightening would come as a shock to departments that have become accustomed to recent government largesse. Although health spending would still be growing in real terms, it would be falling as a share of national income, which is a significant change from the large real budget increases the department has received in previous Spending Review settlements.
The tightening is likely to hit some departments more than others. The PBR forecast a cash freeze on investment spending from 2010/11, which means it is planned to fall by 2.4% a year in real terms over the next Spending Review period.
This is a considerable change from the average 13.9% a year real growth experienced under Labour to date, and conflicts with current promises to maintain investment spending despite short-term pressures. The real reduction in investment spending means capital intensive departments, such as transport and housing, are likely to feel the pinch more than other departments.
What does such a spending squeeze imply for the quality of public services? The government seems confident it will be able to find sufficient efficiency savings for services to be expanded and improved over the next Spending Review period, despite the low growth in spending.
But considerable efficiency savings have already been found in recent years, and the government pencilled in an additional £5bn for 2010/11 in the PBR – despite the fact it had not allocated any of these to specific departments. It is going to become increasingly difficult to find more of these savings.
The public spending plans announced in the PBR are therefore already tight, perhaps much more so than ministers have been keen to publicly admit. They seem to leave little opportunity for reducing total public spending further over this period without substantial revisions to the government’s aspirations. In fact, the chancellor might want to increase public spending over the next Spending Review period by more than the 1.1% a year it planned in the PBR.
Pressures still remain for additional spending to meet some of the government’s own objectives – targets to reduce child poverty and provide world-class public services being just two examples. However, doing so would require more resources – increasing spending growth by 2% a year in real terms would require an additional £23bn in 2013/14 – and these would have to come from either increasing taxes or increasing borrowing. Clearly neither of these would be an easy option, but then nor perhaps would lowering standards of future public service provision.
However, in a world in which UK households seem likely to be poorer than they thought they were going to be, perhaps we will be willing to consume fewer public services, just as it looks likely we will have to consume less of everything else, than we had previously hoped.
