Settlement provides cold comfort for councils

19 Dec 16

The year of 2016 saw many seismic changes, but ministers' approach to local government finance has remained the same. This has increased the risk that town hall’s two main revenue streams – council tax and business rates – will be frozen in time

The great festive tradition of the local government finance settlement published just before Christmas has rarely brought glad tidings to council finance directors, and this year has been no exception. 2016 has seen enormous change – in our international relationships, our national government and fiscal priorities – but the path ahead for local government hasn’t changed since the beginning of the year. Bringing the social care precept forward and reallocating new homes bonus funding demonstrate that the wider financial strategy for local government is business as usual: short term tinkering rather than sustainable long term reform.

At the Autumn Statement, chancellor Philip Hammond responded to the OBR’s downgraded economic forecasts by moving the Treasury’s fiscal goalposts and postponing deficit reduction. But the riskier national economic outlook hasn’t shifted the gears on a policy he inherited from his predecessor: 100% business rates retention combined with the phasing out of revenue support grant. By 2020 the money available for local services will be more directly linked to the health of a local economy, funded in part by a nationally-set tax on the value of business premises. Little detail on the policy has been confirmed – it is not clear how full retention will work in practice within a structurally unbalanced economy, with wildly varying local capacity to generate revenue. Yet there is no indication the government intends to deviate from the general path Osborne set out – which means by 2020 all councils will be operating in a significantly riskier environment and vulnerable to the vagaries of the national economic headwinds. 

Of course business rates will be one of two revenue streams through which local services will be funded. But the other, council tax, is frozen in time. Based on property values assessed in the last decade of the previous century, it has become progressively more regressive. The range of the bands does not match the range of today’s property values or incomes, and it is increasingly poorly suited to resource future demands. And this is before the government pinned all its hopes of solving the national social care crisis on a time-limited micro-increment of the tax.   

The wider challenge for the future sustainability of local government finances is that between business rates and council tax, by 2020 the combined value of commercial and residential floor space in an area will determine revenue available to provide local services. There is a systemic problem that this will raise different sums in different areas, detached from demands on provision. There are practical constraints too: both local taxes will retain national constraints over how local government can apply them, so they will be unable to vary them intelligently to flex to local circumstances or opportunities.

Business rates will become increasingly frozen in time as our economy shifts in the future – technology and the modern labour market mean work for many is already becoming increasingly non-office-based and economic value is online. The government’s priority to close the national productivity gap will increasingly rub up against the strong local incentives on councils to support floor space-hungry economic development, which is not necessarily productive and might expand low wage jobs through for example large out of town retail parks and warehouse units.

Much better proxies for productivity are business profits and commercial transactions – each of which through corporation tax and VAT are subject to national taxation rather than local. In our international peer countries Germany, France and the US, all of which are significantly more productive than the UK, devolved fiscal approaches are the norm. This means that local municipal governments in those countries have a direct stake in encouraging business profitability and activity, and therefore supporting productive local economies.

So we approach 2017 with all indications that the government’s approach to local government finance is largely unaltered from previous years, despite the deteriorating financial outlook changing calculations for the Treasury itself. We now need the shake-up of the national fiscal framework to be extended locally, and real fiscal devolution should be on the agenda.

It will become increasingly apparent that the combination of business rates and council tax, two relatively blunt instruments constrained nationally and detached from local economic reality, are inadequate to support the emerging priorities of places. Full autonomy over how those taxes are levied needs to be enabled, combined with a wider range of revenue-raising powers. Because local government is accountable at the ballot box for its decisions (more regularly so than national government), this will enable the creation of a more intelligent, relevant and adaptive system of localised incentives, reward and re-investment. This would much better link local decisions to local democracy, and ensure that as we move beyond 2020, all local areas are sustainable and resilient for the future.

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