Sunday, September 05, 2021
Sunak turned on the spending taps - can he turn them off again?
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on This is an excerpt. Not to be reproduced without permission.

One of the encouraging signs that things are returning to some kind of normal is the extent of the jousting ahead of the Treasury’s comprehensive spending review, which is expected at the end of October. Rishi Sunak has asked the Office for Budget Responsibility (OBR) to prepare a forecast for publication on Wednesday October 27, which is significant clue to the timing.

The jousting includes a demand for £10 billion extra for next year for the National Health Service in England to deal with the Covid backlog of treatments and operations. The demand, from the NHS Confederation and NHS Providers, is on top of plans already outlined.

For similar reasons – the Covid backlog – head teachers and some academy chains want £6 billion extra, which is significantly more than the government has committed.

Meanwhile, 100 organisations have written to the government calling for the £20 a week universal credit uplift introduced last year to be extended or made permanent. And an army of pensioners is ready to march on Downing Street – some of them having got in a bit of practice during the Extinction Rebellion protests – in defence of the triple lock for the state pension.

The chancellor faces a challenge. Having turned the taps full on during the pandemic, during which money sometimes seemed to be no object, he now has to resort to a more traditional Treasury posture. Public spending in 2020-21 reached the equivalent of 52 per cent of gross domestic product, by some margin a peacetime high. When the UK was forced to turn to the International Monetary Fund in 1976 for a bail-out, spending was 46 per cent of GDP.

A couple of these battles appear to have been resolved, though you can never say for sure until the ink is dry on the documents. The £20 a week universal credit uplift was, like the furlough scheme, a pandemic measure. And, unless the coronavirus has more shocks in store for us over the autumn and winter, it will go. The government will argue that it is better to target help on those most in need of it, rather than through a blanket increase in universal credit.

Similarly, the government seems prepared to risk the wrath of pensioners by not increasing the state pension in line with the Covid-distorted average earnings figures, which in the latest figures showed an annual rise of 8.8 per cent. The increase over two years, unaffected by the furlough distortion, was 7.1 per cent.

Both of these decisions, assuming they remain decisions, are right, though they will be met with protests. Universal credit worked very well as an emergency top-up during the pandemic, and it followed a four-year freeze on working-age benefits but targeting makes sense. It would be wrong, too, to provide state pensioners with a windfall as a result of distorted average earnings figures.

What about the bigger picture? The chancellor stands to benefit from the fact that the OBR’s forecasts for the budget deficit are turning out to be too high. In the first four months of the current fiscal year, April-July- borrowing was hefty £78 billion, but this was £26 billion below the OBR’s projections.

A useful briefing note from the Institute for Government (IfG) points out that the chancellor will find himself with more scope than the OBR expected in its March forecast, as a result of faster growth and the borrowing undershoot. It puts his additional room for manoeuvre at £12 billion, though also notes that the March projections were based on tight spending assumptions. Most of that £12 billion would be used up if, against expectations, the triple lock was honoured in full and the universal credit uplift maintained.

It points out a string of additional pressures, including “coronavirus-related costs beyond this year (such as continued test and trace, and vaccination programmes), backlogs created by the pandemic and the prime minister’s ambition to ‘fix’ social care”. The cost of the latter is at least £10 billion, and that is unlikely to provide a full fix.

Sunak’s position will be that even with an undershoot, this year’s budget deficit will be the second biggest on record, and close to £200 billion. Any improvement in the position in comparison with the OBR’s forecasts is relative. The pandemic effect on the public finances has not yet gone away and, indeed, will not do so for years.

On this, any chancellor awaiting the OBR’s verdict does do with a certain amount of trepidation. There is one particular issue that the OBR has to decide on in the coming weeks, which will be important. This is the amount of “scarring” or permanent damage inflicted on the economy as a result of Covid, for example as a result of sustained higher unemployment. In March, the OBR put the amount of such scarring at 3 per cent of GDP. Since then others, including the Bank of Englad, have revised their estimates down, in some cases to zero. A similar move by the OBR would make a difference to medium term outlook for the public finances.

It would not, however, relax the Treasury’s determination to achieve tight spending settlements this autumn. Public spending ratcheted higher during the pandemic, and it will remain higher in the long-term than previously expected. Total spending in real terms in 2024-25 is on course to be 11 per cent higher than in 2019-20.

That compares with a zero real rise during the austerity years 2010-11 to 2018-19. Some of the increase in due to a 52 per cent rise in public sector net investment, including infrastructure, which was planned before the virus struck. Much of it reflects the pandemic overhang.

Relative to GDP, public spending is projected to be a whisker under 42 per cent of GDP in 2024-25, 41.9 per cent, and staying around that level, compared with 39.5 per cent in 2018-19. In the past, the Treasury would seek to bear down on spending when it reached such levels. Though it may be that we have arrived at a permanently larger size of the state.

Either way, however, the chancellor and his Treasury officials are unlikely to want it any larger than that. Cheap government borrowing cannot be guaranteed for ever. It makes sense to turn off the spending taps.