Politicians never like cutting public spending. But whoever wins the election will have to make cuts on a scale never before seen in our peacetime history. They will face howls of protest from right across the public sector, and accusations that the cuts are crippling our essential public services. The cutters will need to be strong.
The last time we saw such battles was back in the 1970s and early 1980s, when spending also had to be cut to restore the public finances - although on a far smaller scale than today. At the time I was an economist at the Treasury, with a ringside seat at many a bloody confrontation. I watched as the government of James Callaghan nearly tore itself apart struggling to deliver the cuts demanded by the IMF in 1976. Later I saw Margaret Thatcher and Geoffrey Howe battling their own so-called ‘wets’ to rein in spending in the teeth of a recession. I once even saw an embattled minister driven to a mid-morning glass of scotch. But I also saw enough of the public sector to convince me there are big opportunities to cut public spending without crippling our public services.
First, there is always huge scope for savings from tackling waste. The public sector wastes jaw-dropping amounts of taxpayers' money. All across government there are expensive projects and programmes that may have seemed like a good idea at the time, but which produce very little useful output.
Projects such as the grandiose NHS computer programme personally ordered by Tony Blair, which over the next five years will cost us more than £1bn annually for consultants and software but which still doesn't work properly. Or programmes such as Educational Maintenance Allowances, which cost us £0.5bn per year with no discernible impact on education participation among poorer teenagers. Or quangos such as the regional development agencies, which cost £2bn per year with no serious evidence that they boost economic development.
Second, the public sector has a chronic tendency to duplication. For example, much of the £2bn each year notoriously spent on consultants is duplicating work that ought to be done by public sector staff themselves. And right across the public services, from health to education to employment support, there is huge duplication among the government's vast and confusing array of 1,100 quangos operating alongside our local authorities. A recent Treasury-sponsored study found that, in London alone, the cost of such duplication and inefficiency amounts to £11bn per year, an eye-watering 15% of the total spend on public services.
But it's one thing to recognise the scope for cutting waste and duplication, quite another to achieve it without damaging services. The current government attempted it with a high-profile efficiency programme personally sponsored by Gordon Brown and led by businessman turned mandarin Sir Peter Gershon. They failed. Despite announcing efficiency savings running into tens of billions of pounds, when the National Audit Office examined the claims they found that only a quarter were provable as genuine savings. And experience over many years shows that while top-down ‘efficiency’ programmes of that kind can deliver cuts, they're often at the cost of worse services for taxpayers.
Yet there are countries that do much better than us. According to one widely quoted study published by the European Central Bank, the best performing countries (including the US, Japan and Switzerland) achieve public sector efficiency levels 20% higher than ours. That's a substantial difference. With our public spending up to £700bn next year, if we could match their efficiency levels we'd save £140bn annually, a figure that would eliminate our budget black hole at a stroke.
So what do they do right, that we do wrong? What can we learn?
Over the past year I have been researching these questions with the Taxpayers' Alliance for a new book entitled How to Cut Public Spending (and Still Win an Election). And our research shows that the relatively low efficiency of our public sector is a symptom of an underlying disease, a disease that has crept up on us over the past 50 years. It's called centralisation.
Because a key difference between us and the countries with the most efficient public sectors is that our public sector is very highly centralised. In fact, we now have just about the most centralised system of taxation and spending anywhere in the developed world. Our local authorities are dependent on Whitehall for 80% of their funding, compared to less than 40% for their counterparts elsewhere.
And that means most of their spending is directed from Whitehall, via a hugely complex and restrictive system of specific earmarked grants. Unlike their more independent counterparts elsewhere, our once proud local authorities have come to serve their paymasters far away in Whitehall rather than their local communities.
When it comes to public sector efficiency, that's a serious problem. Authorities are unable to shape spending to reflect local priorities, but must follow one-size-fits-all policies dictated from above. They cannot organise services to reflect local cost conditions, but must comply with structures and pay scales imposed nationally. They have little incentive to build their local economies because they will not benefit from any increase in local tax revenues - indeed, as authorities get richer they lose central government grant funding. And there is less accountability to, and scrutiny by, local taxpayers, since they now provide only a small share of the money.
Add in those 1,100 quangos - many delivering services locally but entirely unaccountable to local communities - and you have a system positively designed for inefficiency and waste.
Our research shows that this over-centralisation is costing us tens of billions of pounds annually, as well as holding back economic growth. We estimate that the increased centralisation since the 1960s now costs up to £70bn per year, and depresses our annual growth rate by as much as 0.5%.
Which is why our next government must decentralise. As we face up to the realities of the spending axe, decentralisation offers us one of the few big opportunities to save money without cutting services - a classic free lunch.
So who could possibly oppose such a compelling proposition? Once again, it's that massive roadblock to reform comprising Westminster politicians and Whitehall. They have never liked surrendering power, and real decentralisation would require them to surrender quite a bit. In particular, they would have to hand over some of their tax powers, so that local authorities could fund themselves rather than being dependent on central government.
Of course, Westminster and Whitehall like to tell us that local authorities cannot be trusted with taxpayers' money. But that's to ignore those authorities around the country who are already tackling waste and inefficiency, despite their limited powers. For example, the London Borough of Hammersmith and Fulham has recently achieved £42m of savings from reducing waste and inefficiency, and neighbouring Hounslow Council is aiming to save £53m over three years. All of which is being achieved with no diminution in service levels to the local community.
Think how much more powerful this could be if our local authorities had the same powers as their overseas counterparts. If they were free to make their own spending decisions, directly answerable to local taxpayers for both the results and the costs. Efficiency would become the number one priority. Minds would be concentrated wonderfully.
Mike Denham is a former Treasury and City economist and author of a chapter in the new book How to Cut Public Spending (and still Win an Election) from the Taxpayers' Alliance (Biteback, March 2010)
