Weathering the storm

8 Oct 09
Batten down the hatches, the worst is yet to come. Even if the recession is now over, there are mounting social and financial pressures on the UK. Only radical government action can avert disaster, argues Malcolm Prowle
By Malcolm Prowle

8 October 2009

Batten down the hatches, the worst is yet to come. Even if the recession is now over, there are mounting social and financial pressures on the UK. Only radical government action can avert disaster, argues Malcolm Prowle

After a financial apocalypse, sharp recession and rocketing unemployment, you might think that things couldn’t get much worse. But you could be wrong. The crisis will not simply ‘go away’. We face significant real-terms cuts in public service funding, a situation unprecedented in modern times.  

This could represent a watershed in our social and economic history, requiring considerable thought about the role of the state, the balance between individual and collective responsibility, and the structure of public services and how they are paid for.

To understand why the problems are not short term, it is important to outline the financial, social and environmental context in which public services operate. Clearly, the economic crisis is the worst for more than 60 years, but there are also other serious issues to address in terms of the ageing population, energy and environmental concerns and the public’s low level of trust in elected politicians.

The normal Keynesian principle is for a government to generate budget surpluses during a period of economic growth and to incur deficits during a recession. This has not been the case in recent years, when the government ran a large budget deficit during a period of economic growth.

The impact of recession has now worsened this situation alarmingly. The current budget deficit is the largest (in terms of percentage of gross domestic product) of any country in the Organisation for Economic ­Co-operation and Development. The ­government estimates that we will borrow a record £175bn in 2009/10 to fund that deficit – but the ­terrible figures for August 2009 suggest even this figure will be exceeded. 

Some say that the worst might be over and that the recession is coming to an end. However, the end of a recession is defined as the point when contraction in output ceases. Since the recession has resulted in a sharp drop in GDP, it might take many years to recover the lost ground.

Moreover, there are specific problems in the UK that might hamper economic recovery. These include: a high level of personal and government debt; banks’ continued reluctance to lend to businesses; and instability in the housing market. The overall message is that we cannot just assume that economic growth, and public spending growth, will return quickly to pre-recessionary levels.

The government’s problems are made even worse by the major societal change of an ageing population. In the UK and most other countries, the population is getting older as more and more people live into their 90s and beyond (see figure 1). Although the impact of this on public services is well known, the magnitude of it might not be fully appreciated.

Data from the International Monetary Fund show that in all countries (to varying degrees), the potential impact of the financial crisis is eclipsed by the longer-term impact of the ageing population.
In the UK, growing numbers of older people put huge pressure on health and social care budgets. The government has started to address this with its plans for a National Care Service, but this will only scratch the ­surface of what is needed.

The next contextual factor is energy. Public services are big users of energy – and its supply and cost help determine economic performance, which, in turn, affects public services. Put crudely, energy is running out, with production falling twice as fast as just two years ago. While new fields might be discovered, the marginal cost of production and thus the price of oil are likely to be higher.

This has several implications. First, the energy costs of public services might rise disproportionately compared with other costs. Secondly, public investment in new energy sources, such as the £23bn Severn Barrage, and energy conservation might squeeze out other public services investment. Thirdly, rising energy costs and insecurity of supply might ­restrict economic growth and public spending.

Linked to energy is the environment. The major international environmental issue is carbon emissions. In the UK, the 2009 Budget set a target of a 34% reduction in carbon emissions (on 1990 levels) by 2020. The large-scale public investment needed to achieve the carbon reduction targets could squeeze out alternative public services investment and inhibit economic growth.

The final context is the political one. Even before the recent expenses scandal, the UK was in the lowest quartile of ­European Union countries in terms of confidence in its national Parliament, electoral turnout in the UK was among the lowest in Europe and the job of MP had one of the lowest levels of public esteem. Prime Minister Gordon Brown has clamped down on the abuse of expenses and proposed a right for citizens to ‘recall’ errant MPs, but one suspects this will be too little and too late.

Low levels of trust in politicians can inhibit policy development and implementation, as road pricing and the MMR (measles-mumps-rubella) vaccination have shown. Furthermore, nationally – and to some degree locally – politics is largely professionalised, and concerns are frequently expressed about the calibre of MPs and, ultimately, ministers.

Given these combined factors of the economy, an ageing population, energy and environmental issues and low levels of public trust in politicians, we can’t really expect a return to ‘business as usual’. So what can we do? 

One way is to raise more revenue by increasing taxes. However, this would increase the tax burden on a population that already believes it is over-taxed and that much of public spending is wasted. Furthermore, marginal tax rates on income are now at such a level that they might be a disincentive to effort and entrepreneurship.

Since the UK public finances are in a dire state, we must ask if more radical tax options are needed, including hypothecated taxes, such as an NHS tax, and new locally levied taxes, such as a local income tax. Although these ideas are not new, perhaps it is time to look at them again. We could also consider a much wider range and scale of charges and co-payments for public services and at higher levels.

Figure 2 below shows the different taxes used in the UK, but charges for public services are lost in the ‘other’ category. Introducing more charges would not deter effort and entrepreneurship as tax rises would. We must maximise the revenue collected, while minimising administration costs, and there would need to be exemptions to avoid weakening incentives to work. However, we must not get to a situation where a large part of the population becomes exempt, as is the case with NHS prescription charges.

The other side of the fiscal coin is ­public spending. When governments tighten the financial belt they usually adopt an across-the-board approach, known in the current parlance as ‘salami slicing’. But an alternative is to simply withdraw from some state provision.

Political scientists have often talked about the ‘small state’. But this has rarely happened and in the UK the range of state activities has grown. Moreover, the activist tendencies of many politicians (from all parties) suggest this might be a difficult idea to sell. However, the crisis in public services might force a rethink.

At one level this could involve the cancellation of prospective, large-scale initiatives such as identity cards, Trident and extending the school leaving age to 18. At another level, it could involve a withdrawal from – or substantial reduction in state involvement in – certain activities. Brown has made some moves here already, by indicating that we could lose one of our four nuclear submarines and announcing that there would be no compulsory ID cards in the next Parliament.

Other possible cuts include: the mission and size of the UK armed forces; student quotas in higher education; and state involvement in regional economic development.

Innovation is often seen as the key to recovery in commercial organisations and the same might be true of public services. This would involve new models of service provision that reduce costs but maintain adequate service standards.

Innovation is an important theme and mustn’t be confused with efficiency. There are a number of areas where public services are over resourced, with too many and too highly qualified staff. In many cases, services can be re-engineered at a lower cost with no impact on quality. There needs to be a change in the mind-set that more is not always better.

Staff costs are important. Any attempt to reduce public expenditure will need to address this area, and both major parties have already announced proposals for a pay freeze. The government must also look at the costs of: incremental scales; pay restructuring and job evaluation (which are usually inflationary); and final salary pension schemes.

We must then consider reconfiguring public bodies. There is a range of options including: greater use of the private sector, organisational mergers, shared services and slimmed-down management arrangements. A number of people have also suggested reducing the number of inspection and regulatory bodies and other quangos.

For many years, UK public service organisations have been required to make annual efficiency savings but they now need to step this up significantly. It is an exaggeration to suggest that all of the necessary reductions in public spending can be achieved through true efficiency savings – but with sufficient vision and application, a significant contribution can be made. Efficiencies can be made in staffing, the fixed asset base (especially buildings) and procurement improvements.

In one sense, strategic withdrawal from services and reconfiguration could be seen as the relatively easy approach – as you decide to do it and then implement the decision. But it would create a range of political and practical problems.

On the other hand, innovation and ­efficiency improvements are more ­difficult because they require major changes in organisation and culture in the public sector. To be worthwhile, such improvements need to be significant. And they are unlikely to be achieved through the top-down command and control ­techniques that are used to plan and manage public services in the UK, one of the most centralised states in the world.

So the planning and management of public services must be overhauled. It should not be thought that the changes needed are purely technocratic. They would involve moving to an approach involving delegation, empowerment, leadership, incentives and accountability at the regional and local level. This might increase ‘postcode lotteries’ in services, but local choices need to be respected.

Major changes are required if the government is to really address the situation. Constitutional reform, for one, is vital. New arrangements need to be established between Whitehall and the various local agencies to ensure local priorities and choices are respected and to avoid central government micro-management. A starting point here might be a rereading of Sir Michael Lyons 2007 report and recommendations on local government.

Another option would be to give local government a statutory ‘general power of competence’, instead of legislating for local government powers and freedoms on specific issues. The present government does not seem sympathetic to this idea but the Conservative leader David Cameron has promised this if his party wins the general election.

Some in ­central government will see ‘dangers’ in giving local government and local agencies too much freedom. However, it was central ­government that got us into such a fiscal mess.

Reform of the civil service and government itself follows from this. Why, for instance, does the UK need five health ministers when other countries manage with a much smaller number? What should the relationship be between ministers and civil servants? It is vital that the civil service has the skills to promote and facilitate improvements through a more decentralised approach.

Hand in hand with this should be major changes that give local managers incentives to identify and produce large-scale efficiency and innovation improvements. Enhanced strategic planning of services and the implementation of strategies are needed. Strategic management should be focused on achieving change, not on producing thick documents. Budgetary systems will also need to be focused on empowering managers, ­improving performance and pushing through change. Again, the Conservatives seem sympathetic to the idea of such managerial improvements.

Whatever happens, a major programme for change is needed. But it will require a huge shift in attitude and practice that only a radical government could countenance.

Malcolm Prowle is a professor at Nottingham Business School. A longer version of this article, based on his inaugural lecture, can be obtained by emailing [email protected] His book on the financial management aspects of public service reform will be published in November

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