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When doing nothing is best, by Ciaran Guilfoyle

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22 July 2005

The Local Authority Business Growth Incentive scheme is a good idea on paper – rewarding councils for increasing their business tax base. But they would get the benefits faster through the annual settlement

The Local Authority Business Growth Incentive scheme was launched two years ago at the Local Government Association conference. The headline of the joint press notice from Chancellor Gordon Brown and Deputy Prime Minister John Prescott optimistically read: 'Government's £1bn boost for local government.'

But today, with the details yet to be finalised and local government still in the dark about how much it can expect from the scheme next year, many people are questioning whether it is worth it.

The LABGI is supposed to reward local authorities for the contribution they make to local and national economic growth. The initial consultation document talked about 'a mismatch between the costs of economic development and the benefits that accrue from it'. It proposed that if business-rate tax bases grow, councils should retain a non-ringfenced proportion of the additional tax revenues collected. This would help the authorities deal more easily with the additional burdens arising from increased economic activity, such as traffic congestion and demand for housing.

Additional resources are always welcome in the world of local government finance, so councils responded positively to the scheme. The LGA, even before the consultation document was launched, 'looked forward' to it. Even authorities with historically low business growth rates felt they would not be disadvantaged, since low (or even negative) growth thresholds would be set for them, and any above-threshold growth would be rewarded. It looked as though everyone would be a winner.

But are they? The rewards from the first year of the scheme are supposed to be paid out in the first quarter of 2006 (ie, the end of the current financial year), but no authority knows yet what it is going to receive, as the Office of the Deputy Prime Minister has still not published the final details of the scheme. No doubt the ODPM has been hindered by technical difficulties and anomalies, such as that posed by areas in which power stations were built post-1995. This sudden growth in the non-domestic tax base meant that these otherwise low-growth authorities found themselves in the highest-growth group, but with little prospect of achieving above-threshold growth. This delay in issuing guidance means that there are still question marks over parts of authorities' 2005/06 budget.

Many authorities have therefore played safe and not made any assumptions about what they will receive this year. Anything they do get they will treat as a one-off bonus to spend the following year. But should the funds be treated as a lottery? Perhaps, if this were genuinely new money. But it isn't.

If the scheme were not in operation, the extra revenue generated by growth in the non-domestic tax base would be ploughed back into local government via the annual finance settlement, and authorities would in practice receive a proportion of it according to their assessed need under the Formula Spending Shares. The FSS already takes into account the negative byproducts of economic growth, such as increases in the volume of traffic, and so is better suited as a mechanism for addressing the 'mismatch' between the costs and benefits of growth.

In contrast, LABGI rewards do not take account of the fact that business growth in a locality can often lead to less demand for public services. So not only are the scheme's rewards currently impossible to forecast, they are also directed away from local authority need.

Of course, the Treasury (and a great many local authorities) would argue that this is new money, since local government is a great driver of new economic growth. Around the margins this might be true, but a great deal of this growth will be attributable to (a) decisions by companies to relocate from elsewhere or (b) generally favourable economic conditions. Local government could take the credit for the first of these (but decisions to relocate add nothing to the national economy); it certainly couldn't take credit for the second.

And, in the rare instance that a new business is set up in a locality simply because of, say, the street-scene environment created by a local authority, then it must be asked: 'What is the opportunity cost of this?' If the new concern had not been set up, where would its employees be working instead?

There are economic swings and roundabouts at play here, and we must conclude that it is market forces — not local authorities — that dictate the amount of surplus that can be generated for spending on public services.

Despite all the potential benefits of the scheme, perhaps it would have been better for the chancellor and the deputy PM to keep things simple, forecastable and distributable via the annual finance settlement? Perhaps this is an instance in which 'doing nothing' would have been the best option.

Ciaran Guilfoyle is a principal accountant in a local authority, writing in a personal capacity

PFjul2005

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