Not just the low-hanging fiscal fruit

26 Jun 13

The Spending Review provided evidence that the coalition is starting to think more radically, and attack some tougher fiscal targets. There must be no let up in this approach

It is almost three years since the Economist included a mocked-up photo of David Cameron sporting a punk-rock-style Union Jack Mohican on its front cover. This reflected the promise of a new, radical approach to fiscal policy in the UK. Today there were signs that this new approach may be starting to take hold.

The coalition appears to have recognised that it cannot rescue the public finances simply by addressing low hanging fruit. Fiscal discipline cannot just be a political slogan but a part of everything the government does.

The coalition has taken a step forward on the NHS. Some of the political debate will focus on whether the allocation of £3.8 billion of NHS money to local authorities means the promise to ring-fence the NHS has been broken or not. But this debate risks missing the point. It is a good idea to have a funding pool that allows resources to cross departmental boundaries and to go where they will have the best impact on the community.

This is consistent with international best practice. In New Zealand, for example, a Justice Sector Fund allows savings to be transferred across agencies and across years. Yet this architecture only works because it is backed up by a greater focus on joint working – among cabinet ministers, departmental chief executives and throughout their agencies. Without further progress on civil service reform in the UK it is hard to be confident that the joint fund for health integration will change outcomes in the way hoped. It risks being another source of tension rather than transforming the way government works.

The coalition has also signalled a desire to get to grips with the spending on pensions. Again this is the right thing to do. No sensible plan for rescuing the public finances can fail to look at pensioner benefits. Over the last three years the amount that government departments spend has shrunk on average by 8 per cent while the amount going on transfers (annually managed expenditure), which includes welfare benefits, has grown by 25 per cent. Benefits to pensioners account for around 55 per cent of welfare spending and 16 per cent of all government spending.

Yet there are problems with the coalition’s approach to reducing this spending. In particular, by excluding the state pension from the cap on transfers its coverage has become so narrow as to be practically meaningless. The coalition has also failed to account for the growing costs that will arise due to the indexation of the state pension due to the triple lock, and the plans for the retirement age do not go far enough to account for increases in longevity. The proposal to restrict the Winter Fuel Payment is complex and will save little money. The coalition’s pension reforms are thus a case of one step forward and two steps back.

In education, the government continues to confuse inputs (such as the money spent) with outcomes (the impact on the community), even though there is growing research that shows this link is weak and what actually matters is factors like the quality of teaching.

And on growth it appears to be falling prey to 'politicians' logic.' As Sir Humphrey Appleby put it: 'We must do something. This is something. Therefore we must do it.' Further, while growth is important it is not a silver bullet – the largely structural nature of the problems in the public finances means that without reform they will persist even when growth returns.

Yet the debate on growth highlights how some of the problems the coalition faces are partly, but not wholly, self-inflicted. This is not in the way that many prominent critics of austerity argue but reflects a failure to implement spending cuts correctly. As international evidence shows the economic return from spending on economic development (such as infrastructure) tends to be higher than spending on social protection (such as social security and health). Yet, as the House of Commons Public Accounts Committee has noted, the pattern of consolidation has been the opposite of this.

By focusing on short-term political priorities rather than longer term reform the coalition has made the going even harder. There were signs today that this approach may be changing – but serious concerns still remain. The coalition failed to properly capitalise on its opportunities over the last three years. They must not waste the final two years of this Parliament.

  • Patrick Nolan
    Patrick Nolan

    principal adviser at the Productivity Commission, New Zealand. Formerly chief economist at the Reform think-tank.

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