19 December 2008
The Ghost of Christmas Yet to Come reveals a grim vision for the public sector, says Tony Travers. But at least services are now in a stronger position to withstand the worst
Christmas brings out the Dickens in all of us. In a good year, we can look to the Pickwick Papers for a jolly, optimistic story to settle down with over the festive period. This year, however, Oliver Twist and A Christmas Carol are more apt fare, though even these tales have inappropriately happy endings. Looking ahead from the end of 2008 into the prospects for 2009 is like Scrooge peering out at the bleak future offered by the Ghost of Christmas Yet to Come.
Dickens wrote of Scrooge's final visitation that 'in the very air through which this Spirit moved it seemed to scatter gloom and mystery', which could certainly have been said in recent times of Alistair Darling. Ever since the chancellor forecast – accurately, as it turns out – that the current economic downturn could be the worst for 60 years, his spectral countenance has inspired plenty of gloom and mystery.
And there is probably much more to come. The appalling autumn has given way to a worse winter. Economic forecasters are falling over each other to predict lower gross domestic product numbers for 2009 and/or an earlier starting point for the current recession. Last week, there were even stories that the Treasury might resort to printing money if consumer price index inflation appeared likely to fall much below its 2% target. The recent Pre-Budget Report forecast that the retail price index inflation measure would plunge below zero next autumn.
There are so many bad things to predict, it is hard to know where to start. We know, for sure, that Britain faces at least two years of shrinking economic output. But it might be more. Economists talk wearily about the possibilities of a 'V', 'U' or 'L'–shaped recession. Happily, keyboards do not include a letter similar to an 'L', but with its lower line sloping downwards from left to right.
However, there is no doubt that the gloomier forecasters talk privately of a depression that would include falling output and falling prices for several years. No wonder books by recession-specialist economists John Maynard Keynes and John Kenneth Galbraith have, against the trend, enjoyed bumper sales.
None of the great experts, whether in the Treasury or economic institutes or universities, has the foggiest idea whether the bad news for the economy has reached its end. The banks, having been recapitalised and part-nationalised, are attempting to hoard their cash by refusing to lend it to anyone, especially each other. Regeneration and housing projects are stopping one by one. While the government has brought forward a small amount of housing and regeneration investment from 2010/11 to 2009/10, capital expenditure will soon start to decline as a share of GDP.
Labour and the Conservatives have contrived a fight over a difference in public spending plans equivalent to perhaps 1% of GDP. Labour is now 'spendthrift' and 'bankrupt', while the Tories are 'nasty' and 'resorting to slash-and-burn'. In truth, neither of the main parties can be sure where its opponents' policies would lead the economy. Even the Liberal Democrats' Treasury spokesman Vince Cable doesn't know, which is bad news indeed.
What we already know about 2009/10 is that public spending will be squeezed for the second consecutive year. The NHS and schools have been largely spared, with increases of 4%–5% for most institutions. But for local government and many other parts of the public sector, next year will not be easy. The fact that inflation will be much higher in the run-up to the new year than during or at the end of it will make budget-setting more difficult. Worse, pay negotiations will be conducted at a time when inflation is still around 4%, even though the average for the year could be closer to 2%. These are challenging times for finance directors.
Steve Bundred, the chief executive of the Audit Commission, stated last week that councils would be likely to shed staff as the recession deepened. A study of council finances showed that local government expects to face income and expenditure pressures equivalent to £2.5bn this year, comprising lower income from charges and higher demand for social housing, care for elderly people and school places.
But councils have prepared for the recession, according to Bundred – 25% have frozen recruitment; 50% have freezes in some departments; 7% are planning compulsory redundancies; and 20% are relying on voluntary redundancies.
The Local Government Association concurs with this analysis. If the numbers of staff employed fall, it will be from a total that has continued to inch upwards in recent quarters. This pattern will be repeated with varying degrees of severity in all parts of the public services.
The pressure on local government budgets is bound to lead to debate about the scale of council reserves and, even more awkwardly, about pensions throughout the public sector. Paradoxically, the Icelandic bank crisis demonstrated that local authorities have upwards of £20bn in their reserves. While there are good reasons for holding reasonable balances and also cash for other prudent purposes such as insurance, the overall amount of taxpayers' money hoarded by finance chiefs is such as to raise a collective eyebrow. In total, local government might be holding reserves equivalent to 15%–20% of annual spending.
Although this prudence might be justified by the threat of 'worse to come', the public – and the Treasury – are unlikely to comprehend the scale of it. It will be interesting to see if authorities choose to reduce their reserves as part of their 2009 budgets or whether they will further add to balances because of the risk there might be far tighter funding settlements in future years. On balance, a cautious reduction in reserves might be the wiser option.
Pensions will be a growing problem and not only for local government. The collapse of share prices, property values and interest rates means that many pension funds will need to be topped up. This might not happen next year, but it will soon after. The need to divert local taxpayers' money into public sector pensions at a time when private sector pensions are shrinking or non-existent will look, at best, unfair. The size of many salaries at the top of the public sector will also become exposed as private pay falters. Expect calls for less generous pensions and salaries, particularly for top public sector officials.
It is too early to be certain whether the trades unions will be less willing to press ahead with their demands for above-inflation pay settlements at a time of fast-rising unemployment. Given the tightness of public sector finance settlements for 2009/10, any real increase in pay will feed through directly to staff numbers. Put simply, the higher pay settlements are fixed, the fewer public sector employees there will be.
The Spending Review expected during 2009 will be a gloomy affair – definitely no unexpected gifts for any part of the public sector. The Institute for Fiscal Studies has estimated that the squeeze on expenditure from 2011/12 to 2013/14 will reduce real spending by £37bn, compared with what would have occurred if growth in public spending had been in line with the expansion of the economy. If each part of the public sector were treated in broadly the same way in the next Spending Review as in the 2007 one, most services could expect their rate of growth to be cut by 1% to 1.5%. Schools will be lucky to receive 3% cash extra and the NHS perhaps 4% per year. Local government, fire and police might face a real-terms standstill for several years – possibly up to the end of 2016/17.
The post-Gershon efficiency drive will be intensified, with a demand for £5bn savings by 2010/11. As with earlier programmes of savings, it is hard to know how far such efforts are real and how far they are paper exercises to make the government look as if it is still prudent with taxpayers' money. Whether the coming exercise has real effects or not, it would be surprising if employment levels within the public sector did not now start to decline. The numbers of civil servants, council staff, teachers, police and social workers seems likely to fall for some years ahead. Cutting staff is, of course, different from efficiency.
A prolonged period of pressure – and cuts – within the state will almost certainly produce calls for a debate about the scope and scale of government within Britain. By the time public expenditure has grown to 45% or 46% of GDP and borrowing hits £120bn or more, it is possible politicians will start a debate about the future of public services. The Conservatives have already sought to change their approach to government spending and borrowing. It is certain that free-market think-tanks and taxpayers' lobbyists will call for the state to be cut back.
Thus, we will see more debates on issues such as co-payment within the NHS and efforts to push up fees and charges wherever possible. The railways show the likely pattern: expansion will be paid for by above-inflation fare increases for years to come. Britain will have a relatively fast, widespread and efficient semi-nationalised rail system but the state will pay for very little of it. Universities now charge UK students for their education and will doubtless raise fees in the years ahead. It is almost inevitable that similar forces will develop in other services, including for elements of health and schools.
Are there any grounds for optimism? The answer is surely 'yes', because the public services, particularly local government, will have an important role during the recession and in rebuilding the economy. Creative councils are already coming up with bright ideas such as local banks, innovative funding mechanisms and the possibility of bond issues. The New Local Government Network has been encouraging councils to become active in the provision of mortgages.
Moreover, the major real-terms increase in public expenditure between 2000 and 2007 has left services in a much better condition than they were at the end of the 1990s. Revenue and capital expenditure on health, education, transport and the police are significantly higher than they were a decade ago. Although there is the risk that five years or more of contraction will reverse some of the gains, the improvements to the capital stock will be around for decades to come.
Good planning will be vital for all officers and elected members responsible for public services in 2009, as will detailed knowledge of the progress of the downturn. Because of the unpredictable nature of the recession, it will be important to know what is happening from week to week. Different parts of the country will fare differently. Local information will be the key to ensuring services are best tailored for needs.
Dickens' stories carried simple messages about human nature, both good and bad. But they generally included the possibility of redemption and improvement. 2009 and the years that follow will not be easy for central government, its agencies or for local councils. But nor will they be boring. Crucially, the demand for public provision will increase, stressing the importance of collective action. Next Christmas might seem a long way away, but by then we will have a clearer view of the future. And Scrooge ended up happy, after all.
Tony Travers is the director of the Greater London Group at the London School of Economics
PFdec2008
