Sunday, June 09, 2013
Still no money left, so the squeeze goes on
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

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My regular column is available to subscribers on www.thesundaytimes.co.uk This is an excerpt.

I once had a long and exasperating discussion with Gordon Brown. The former chancellor and prime minister could not be shifted from his view that the economy Labour inherited in 1997 was in a terrible state.

I and others present pointed out that an economy in its sixth year of robust recovery, with inflation low, unemployment falling, the budget deficit dropping and the current account of the balance of payments nearly in the black, was in remarkably good shape.

Most oppositions would not get anywhere near inheriting such an economy but the capacity of the Tories for self-destruction had presented Labour with a gift. But he would not budge.

Old habits die hard and Ed Balls clearly learned much at the feet of his old master. In setting out Labour’s plan to abolish the winter fuel allowance for better-off pensioners - saving a tiny £100m (0.05%) from a welfare budget of over £200bn - the shadow chancellor bemoaned the “bleak inheritance” Labour could expect in 2015.

Now it is clear that the economy in 2015 will not be in remotely as good a shape as it was in 1997. But it is also clear that it will be a lot better than in 2010, when the country was knee-deep in a banking crisis and teetering on the brink of a fiscal crisis.

The shadow chancellor has chutzpah, or you could say balls, but his comments may merely remind people of that 2010 inheritance. Taken together with his claim that Labour was not profligate on spending, you could sense a disappointment that the coalition has not done better in sorting out the public finances, thus opening the way for normal spending service to resume.

The Balls’ speech, together with Ed Miliband’s pledge that the next Labour government will introduce a three-year cap on do-called structural welfare spending - as well as not reversing coalition child benefit cuts - are political positioning.

Before the 1997 election Labour said it would stick to Tory spending plans for two years. This time Miliband and Balls say they will stick to the 2015-16 plans currently being hammered out, as well as making other pledges intended to persuade voters they can be trusted.

Behind the politics, however, there is also the economic reality. The coalition, having inherited a situation in which in the former Labour Treasury chief secretary Liam Byrne’s memorable phrase, there was no money left, intended to get to 2015 with the toughest period of austerity over.

Public spending, according to the Office for Budget Responsibility’s forecast in June 2010, would be down to the equivalent of 39.8% of gross domestic product - below the 40% deemed acceptable and sustainable - by 2015-16. Job done.

Or not. The OBR’s latest forecasts, in March, showed public spending in 2015-16 at 43.1% of GDP (against receipts of 38.1%) and spending not getting down to 40% over a forecast horizon that stretches to 2017-18.

The main reason for this is the weakness of growth. The lower the level of GDP, the denominator, the higher other measures, whether borrowing or spending, will be as a percentage of it.

Three years ago the OBR expected GDP in 2015-16 to be £1,902bn. Now it expects it to be £1,728bn. That is nearly a £200bn difference; a huge amount. Signs of stronger growth mean some forecasters are revising up their recovery predictions and there is more optimism around. But there is a lot of lost ground to make up and spending continues to be too high relative to GDP.

One puzzle, for many, is that spending continues to be so high, both in absolute terms and relative to GDP, at a time when many government departments, and providers of public services, are squealing so much about cuts.

Osborne and Danny Alexander, the current Treasury chief secretary, have done a reasonable job controlling overall spending. The OBR expects total managed expenditure in 2015-16 to be £745bn, lower that the £757bn it expected three years ago.

This is despite higher welfare spending than was expected - a combination of inflation-related benefit uprating and weak growth in wages - and the continued ringfencing of the National Health Service, overseas aid and the schools budget.

The squeeze on the non-ringfenced departments has, however, been intense. With overall departmental spending due to drop 10% in real terms this parliament, and a further 7.6% in the three years beyond 2015, those without the the ringfence have been hit very hard. Deep cuts much beyond the election may be hard to achieve, which is why the Institute for Fiscal Studies has warned of post-election tax hikes.

Unless there is a better way. All the headlines when the results of this spending round are published on June 26, covering 2015-16 only, will be about the £11.5bn of cuts hammered out in negotiations with departmental minitsers. There will, no doubt, have been blood on the carpet.

The bigger story, though, may be about what Osborne intends to do about spending which is outside these departmental negotiations, so-called annually managed expenditure, or as the chancellor put it in the budget, annually “unmanaged” expenditure.

While departments have been squeezed, this ‘AME’ spending, £352bn this year, has been growing, a cuckoo in the spending nest. Mostly it is is welfare but also some other items of spending. Osborne will set out ways in which this will be controlled, bringing some essential discipline.

Many would say this should have been done long ago. Why not in 2010, when the coalition had its first spending review? But these things often involve trial and error. We admire Canada’s successful spending regime, which cut spending by roughly a fifth in the 1990s and then held it down.

But, as an Institute for Government briefing on Friday pointed out, Canada did not get there straight away. Its attempts to control spending began in 1984 but only got into its stride more than a decade later.

The hope has to be that we can bring a permanent end to the public spending boom and bust much sooner than that. If he has time, maybe Mark Carney could tell ministers how it was eventually done successfully in Canada.