Members present:

Mr Michael Fallon, in the Chair
Mr Nigel Beard
Mr Jim Cousins
Mr David Laws
Mr John McFall
Kali Mountford
Mr George Mudie
Mr James Plaskitt
Mr Andrew Tyrie


PROFESSOR IAIN McLEAN, Official Fellow, Nuffield College, and Professor of Politics, Oxford University, examined.


  1. Professor McLean, welcome. Could you, for the sake of the shorthand writer, formally identify yourself?
  2. (Professor McLean) Yes, I am Iain McLean. I am Professor of Politics at Oxford University and a Fellow of Nuffield College.

  3. This is the start, as you know, of our inquiry into these regional matters. Do you think that the Government overall has a coherent strategy for addressing regional economic imbalances?
  4. (Professor McLean) That is a very tricky question to throw at me straightaway, Chairman, since I am here as an academic and not as a political commentator. I think that most regional allocation to the English regions goes by formulae. Government may change the formulae from time to time, and each spending review gives Government an opportunity to change the formulae. The formulae are themselves based on conceptions of need which go back some years. The general view that I gave in my evidence is that the formulae in relation to the Health Service work reasonably well and the formulae in relation to local government services work not very well.

  5. In your paper at page 3 you do talk about assignment of tax revenues being done according to two incompatible formulae, do you not?
  6. (Professor McLean) I do, yes.

  7. So presumably you think there is a slight lack of coherence about the overall picture?
  8. (Professor McLean) Yes, I do. The awkwardness here, Chairman, is that what I presented to you as my evidence was a freestanding paper that I had written earlier about two subjects, one of them being about a forbidden subject of this inquiry beginning with the letter "B", and, as I understand it, this inquiry is not about the Barnett Formula. It is rather awkward for me to comment on the disparity between the formulae that apply to Scotland, Wales and Northern Ireland on the one hand and the formulae that apply in England on the other, but my paper does say that there is a disparity.

  9. Yes. Although the Barnet Formula is not a subject of our inquiry, we may be touching on it, you will be relieved to know. Given the number of spending departments involved, do you think there is an attempt to assess regional needs as a whole and to address them as a whole? Can we say that about British public policy?
  10. (Professor McLean) About British public policy, if you mean the public policy of the United Kingdom, I would find it rather difficult to say that there is an attempt to address it as a whole, because of the point that I make at that point in my evidence that the procedures for Scotland, Wales and Northern Ireland are so very different to the procedures for England. Within England I think, yes, that the Treasury and what I must now remember to call the ODPM and also DTI - all three of those departments - are interested in that subject.

  11. Is a region's share of public spending in England the sum of its share of individual spending programmes, each made without reference to the region's overall needs?
  12. (Professor McLean) I do not think that is entirely true, because there are programmes which go through the government offices of the regions, and I presume the Government attempts to assess those in relation to a region's overall needs. However, there are programmes which do not go through the government offices and they are, if you look at the public expenditure statistical analysis table, the majority of programmes. Those in turn fall into two pluses: demand-led programmes, mostly social security, where there neither is nor I think should be any explicit consideration of regional needs, because if somebody is entitled to a benefit then they are entitled to benefit wherever they live; and on the other hand programmes where the bulk of the funding is delivered by the formulae as to health authorities, for instance, and to local authorities.

  13. You refer in your paper, fascinatingly, to the "losing" regions and the "gaining" territories. Is there a consensus as to who are the gainers and the losers under the current formulae, and have they changed over time?
  14. (Professor McLean) Yes, there is a consensus, because the data are quite clear. The three territories which are ahead of a normative standard are Scotland, Northern Ireland and London, and the nine which are below are all the other nine standard regions. I am sorry, Chairman, you had a second question which I have now forgotten.

  15. Have they changed over time?
  16. (Professor McLean) No, that has been a quite stable pattern. As the graphs at the end of my paper show, that has been a stable pattern for as long as the data enable us to go back, which is to about 1990 or so.

    Chairman: Thank you.

    Mr Laws

  17. Professor McLean, in your paper which you gave us sight of you say that there are "good reasons both of efficiency and of equity" for some sort of equalisation arrangements in the way that the expenditure is distributed across the country. It might be fairly obvious why that should be the case for equity grounds, but why for efficiency grounds should there be a distribution of that type?
  18. (Professor McLean) One reason could be that public spending would be more efficiently distributed if it were redirected from areas or people in relatively less need to areas or people in relatively more need. Another reason would be that if there are, as I believe there are, formulae which contain perverse incentives in them ----- For instance, it is argued, not only by me but by other academics who have looked at the matter, that some of the ways that the SSA formulae (the Standard Spending Assessment formulae) for local authority spending are calculated, involve perverse incentives so that there is a risk that they will reward the inefficient. That was a view adopted by the DTLR itself in the Local Government White Paper back in December, where they gave - and I think I quote it in my evidence - what I regard as very clear examples of the inefficiency of their own formulae. So this is the Government itself making what I think I call in the paper "Maoist self-criticism of the arrangements".

  19. What you are saying, therefore, in terms of the allocation is that it might be more efficient to spend the money on health, education or deprivation in an area that had particularly bad characteristics in those areas, rather than putting a lot more money into an area that already had very short waiting lists, or better health or better education? Is that what you are implying by "efficiency"?
  20. (Professor McLean) That is part of what I am implying by "efficiency", but the case is different for health from local government services, because for health services it is probably not the case that inefficient hospitals cause bad health. Bad health is caused by many, many social and environmental factors, and so it is relatively straightforward to direct health spending to areas of bad health. However, for local government services it is much more difficult, and the Government I think admits that it has not found the solution, because for local government services your evidence as to, let us say, where it is expensive to buy childcare is simply the list of costs which each local authority incurs in providing childcare, but that may, as the Government itself has said, show not that in the bad areas the childcare is expensive, but that it is inefficiently run.

  21. My last question on this bit is that in this section of your paper you refer to the table - Table 1 - which shows the way in which these allocations are done across the country, and you say that that table suggests that something odd is going on, do you not?
  22. (Professor McLean) Yes.

  23. Obviously we are going to explore those issues later on, but in a nutshell, what is the odd thing going on from your perspective?
  24. (Professor McLean) The odd thing going on is that there seem to be two countries within the UK, from the figures in my paper; that within a country consisting of the three non-contiguous territories of Northern Ireland, Scotland and Greater London there is a reasonable relationship between GDP per head and public expenditure per head - Northern Ireland is the poorest, Greater London is the richest, and the line goes the way one should expect it. Within the other nine territories of the UK the same is true that the poorest, which is the North East, gets not quite the most spending per head because Wales gets more, but at any rate what a statistician would call the regression line has the right property. The trouble is, when you put those two bits of the UK together, you get a pattern which is statistically of no association at all. If there is statistically no association at all between GDP per head and public expenditure per head in the territories of the UK, one has to conclude I think, as I say, that there is something odd going on.


  25. Going back to answer you gave me, you said that the three regions that had really done the best were London, Scotland and Northern Ireland. Your table shows London way out ahead. Is there a particular reason for that, or is it a reflection of the higher costs in the capital?
  26. (Professor McLean) I am sure it is partly a reflection of the higher costs in the capital, although in the graph which we prepared - which, by the way, I have since updated for the most recent year's data - we tried to account for the higher costs factor by calculating the relative advantage and disadvantage after taking account of differential costs of living, and London is still ahead. It reduces the London advantage (if that is the right word) from about 1500 per head before you take account of cost of living to about 1100 a head after you take account of cost of living.

  27. They are still way out in front?
  28. (Professor McLean) They appear to be, yes.

  29. We would like to see that updated graph, if that is possible.
  30. (Professor McLean) Yes, with pleasure.

    Kali Mountford

  31. The Campaign for the English Regions have told us that "plotting trends in regional spending is something of a fine art", implying obviously that it is difficult to do, and is therefore "more accurate with some programmes than others". Do you share that view? If so, could you tell us perhaps why you share that view, which programmes you think are more successful at looking at the trends, and why you think they are successful?
  32. (Professor McLean) Yes, I do share that view. In fact, I do not know if members of the Committee are all aware, so I will put it on the table now, that I hold the contract with the ODPM to investigate the flow of public expenditure into the English regions, which is aimed at precisely that question: are the data reliable, are they more reliable for some departments than others, what can be done to improve them? That is our commission from the ODPM. The contract has been in the field for a month out of a year, so it is very early days, but I can say that certainly there is strong evidence that the numbers are more reliable for some departments than for others. One anecdote which has become well known in some circles in the last few months is that in the PESA tables (public expenditure statistical analysis) up to last year, if you looked at the tables which give English regions' expenditure and you look at the line "Agriculture, Forestries, Fisheries and Food", you find that the spending per head is essentially identical in all nine regions of England, and in particular it is the same in London as in, for instance, the South West. I have heard it said that MAFF and now DEFRA justify this on the grounds that agricultural spending is to everybody's advantage and therefore it is quite right that it should be equal in London to what it is in the South West, but they appear, under pressure from the Treasury, to abandon that line, because in the PESA tables just out within the last month that line has been changed and London does, as one would expect and, I dare say, hope, have the lowest per head spend on agriculture, forestries, fisheries and food. So that is an example of a statistic which is clearly suspect. It is not a big programme, so it does not much affect the argument we had earlier about whether London is over-funded or not, but clearly the data are much more reliable for some departments than others. Our view at the moment, only a month into this project, is that the data are most reliable for those departments where you have individual claimants, so we expect them to be reliable for the DWP, for social security. They are relatively reliable for departments which have relatively meticulous records. We are not yet in a position to say which departments those are, but that is one of the focuses of our investigation.

  33. I have managed to glean from that answer that you do not believe there is a consensus really about how data is compiled and collected, otherwise there would not be such disparity. Do you think there ought to be consensus? What ought we to be looking at to make sure that the information that is available is not just accurate but also useful?
  34. (Professor McLean) The Treasury, the ONS and spending departments are all trying to work towards such a consensus. It may be helpful if I say how the process is done at present, which is that the Treasury issues to the spending departments a spreadsheet annually which contains the total English spending for their programmes, so education might be divided into under-fives, primary, secondary and so on. The department is asked to produce nine columns with a breakdown of these numbers for each English region, and the Treasury has set the software so that if the columns do not add up to the supplied right-hand column, the form is rejected. So there is a methodology there which departments are constrained to follow. That may be an approach to consensus, but I think we are not there yet.

  35. Yes, it is perhaps not a consensus that most of us would recognise, but I shall move on from there. What I would like to know about is that when we are dealing with these figures, the data that we get out of them could be skewed by what we include in the first place. Are there aspects of public expenditure that are currently missing from those columns, that you think ought to be included and, if included, would actually change the results of how we see spending overall in the regions?
  36. (Professor McLean) I do not think so. The data that I work from and that I think most people who look at this would work from is total managed expenditure, as the Treasury calls it, which is all capital and current expenditure by central and local government. That seems to me to be the right total to look at. Perhaps you had an example in mind. Perhaps I am missing a question behind the question, or something which ought to be included but is not.

  37. I suppose what is in my mind, and maybe might come out of some of the reviews that are going on elsewhere, as you have touched on yourself, is the problem of what do we include in local government expenditure? From what is included, in my own experience previously as a councillor, we had some difficulties in what we thought was fairness and felt that there were aspects of expenditure that ought to be included to make matters fairer. Would you go along with that view?
  38. (Professor McLean) Everything that local authorities actually spend is part of this concept of total managed expenditure, so if an authority, for instance, does not like its SSA or would like to spend, or chooses to spend, on things other than what the Government wants it to spend on, that is reflected in the total. So the totals that I am dealing with are the totals of money which has actually been spent and which counts as public expenditure, including all the money spent by all local authorities in the region.

  39. You also gave us some fascinating information about agricultural expenditure and how that was allocated, but what about defence expenditure? How is that accounted for? Heaven forbid that it should be spread equally.
  40. (Professor McLean) That is a good question and one which our research project is looking at. The defence expenditure does not appear in the tables in my paper because Government deems defence to be an example of what, in the jargon, is in but not for the regions. With permission, perhaps I may go into "in" and "for" briefly. The Government line, shared by all relevant government departments, Treasury and ONS in particular, is that there is a way of counting regional expenditure which looks at for whom the expenditure is to benefit, and that is the so-called "for" concept which is used in the PESA tables. There are classes of expenditure which are deemed not to be to the benefit of individuals or individual regions, and defence is a case in point, where defence expenditure is deemed to be for the good of the entire population of the UK. Nevertheless, it is obviously the case that defence expenditure takes place in the regions of the UK, and our project does involve looking at that, although it is not in the PESA tables. I have a colleague, a subcontractor, who is already talking to the Ministry of Defence about that, and we will, when we produce our final report in April of next year, be able to say something about the spread of defence expenditure around the regions of England.

  41. Obviously given that it is in the regions, there is a benefit to those particular regions, if only from the jobs and the impact on the economy and therefore on all of the other services?
  42. (Professor McLean) Yes, that is true. The MoD and the ministers in that department are very well aware of that, and that is indeed why we are told that a quango called DASA - Defence Analytical Services ----- I shall have to tell the Clerk what the acronym stands for. Anyway, the acronym is DASA. DASA keeps detailed records on these matters, and our project is going to check those records.

  43. Given that that figure is excluded from the TME and it does have an impact, and that we are looking at expenditure over the regions overall, what should we be looking at?
  44. (Professor McLean) I am sorry, my earlier answer was misleading. Defence expenditure is within TME, but it is not within that part of TME that is presented in the Chapter 8 PESA which gives the English region breakdown.

  45. So you are telling us that we can be satisfied that at least the range is inclusive enough?
  46. (Professor McLean) I think you can be satisfied that the range of spending which is counted as public expenditure for the purposes of the regional allocation is satisfactory, yes.

    Mr Beard

  47. When you were speaking about Table 1 and the public expenditure per head, you said that leaving Scotland, Northern Ireland and Wales out, there was a broad correlation. It is a very broad correlation. I was just about to say the line goes in the right direction. It is not really a correlation much at all, is it?
  48. (Professor McLean) No, if you take these three out it is a respectable correlation. My research officer and I calculated it and it looks statistically reasonable.

  49. Those figures there are built up from different formulae which are applied by the different departments, and certainly in some cases those formulae are only very vaguely understood by some of the recipients of the funds, are they not?
  50. (Professor McLean) Indeed.

  51. If not by some of the people who are actually doling out the funds. Does it not strike you that they are so obscure that people do not really understand the things that are influencing the answers?
  52. (Professor McLean) As to the people who are doling the funds out, I have talked to those in ODPM and my experience is that so far they do understand what they are doling out. I have not talked yet to the Department of Health, so I cannot answer in that regard. As to the recipients of the funds, indeed, that is a very fair comment. Almost nobody, for instance, even in the world of local government, feels that they fully understand that SSA system. That, I think, is a fair criticism. As I said earlier, the Government also itself accepts that that is a fair criticism of the local government distribution mechanism.

  53. Do you see your way round that? Do you see any way in which you can associate the money that is given to the actual region with the problems that are supposed to be influencing the allocation?
  54. (Professor McLean) It is quite difficult, I believe. You can attempt to do a statistical regression formula, which SSA is, but do it better, or you can abandon the regression approach and go for some, I would say, more data-poor indicator or information-poor indicator, but nevertheless one which may be no less equitable. In the paper I suggest inverse GDP as an example of such a thing, and I would be willing to expand on what I mean by that, should Members wish me to. I am not terribly optimistic that any government - I am not making a party standpoint here - can do all that much better than the present SSA formulae if they stick to a regression formula, because there are some really quite severe statistical and methodological systems problems associated with it, which I set out in the paper. The essential one is the one that I mentioned in my answer to Mr Laws, namely that the data which determine need are themselves derived from the authorities which receive the grants, and there is a danger of circularity there.

  55. You have referred to the GDP per head, and that is in Table 1 of your paper. You say that the GDP per head per region is "another prima facie indicator of regional wealth and poverty". How do those differences between the English regions compare with the differences between similar regions in France, Germany and Italy, for instance?
  56. (Professor McLean) I do not have an immediate answer to that. I could check it and tell the Committee later.

  57. But is there a greater variety, a greater spread or a cluster?
  58. (Professor McLean) My impression is that the variety within the UK is fairly wide among the EU Member States, but that really is something I should not make a statement on when I do not really know the position. It is fairly easily checked from the sources.

  59. Would the GDP per head be a better way of looking at this problem than the allocation of regional funds?
  60. (Professor McLean) I believe that it might be, yes. That is one of the arguments in my paper, yes. One of the reasons for saying that is that GDP per head is a number which is not determined by government decisions, it is the product of all the actions of all the agents in the economy and it is measured as part of national statistics under the protection of which national statistics have to be measured in a non-partisan way.

  61. How have other countries managed in trying to even up the prosperity of their different regions?
  62. (Professor McLean) Again, that is a question where I could commission a review of the literature, but I would be diffident to give an answer here and now which might make it sound as if I had more authority than I have. I think, though, that the countries which do it best are those that have an active intergovernmental body which oversees this matter. Australia, Canada and Germany I think are often mentioned in the literature as cases in point.

  63. Is there not a risk, if you conduct policy by putting more money into the regions that are most impoverished and less into the regions that are reasonably prosperous, that you are stunting growth overall? For instance, you might be putting money into a region that is entirely barren, meaning that resources in another region, which could be exploited for want of capital, are not exploited. Is there not a potential fallacy there, if you look at the well-being of the country as a whole?
  64. (Professor McLean) There is a deep question about what government expenditure is for there, which clearly political parties take different views on. Again, I would be diffident to get into political controversy about it. But for most of the programmes on which Government spends money I think it is always going to be the case, whatever the partisan complexion of the Government, that more money per head one expects to go to poor areas and less money per head to go to rich areas, because a very large proportion of public expenditure is always going to be on health and social security, and one has to expect that health would be worse and poverty greater in poor parts of the country.

  65. So you are saying that things are all right, and that this is the right way to do it, even if you may be holding the whole growth of the economy back?
  66. (Professor McLean) No, I am not saying that either, because I do not know - and I am not sure that any academic knows and nor, I think, does any Member or civil servant in the Government know - whether expenditure which might help economic growth, expenditure on industry, expenditure on communications, expenditure above all on human capital formation, is being distributed as efficiently as it can be. That is a huge question. Very probably it is not, but I cannot tell this Committee how it should be spent differently.

    Chairman: Now we are going to venture onto some of the forbidden ground.

    Mr Cousins

  67. Professor McLean, the Barnett Formula was intended to be, by its designers, by its inventors, a convergence formula, but it has not converged. Expenditures between England and some of its regions, Scotland, Wales and Northern Ireland have not in fact converged. Why is that?
  68. (Professor McLean) My view is that it did not converge for the first 20 years or so of Barnett, but that it has started to converge now, and it particularly, in my view, has started to converge during the current spending review period that we are in. The reasons that it did not converge before that are many and various, and I give some of them in the paper. One is that the population relativities were wrong. Until 1992 the formulae treated Scotland as if it had a higher population than it actually did. A second reason - and I have to say, this is quite a political one, it is in my paper, but I believe it to be true - is that the Conservative Party after all certainly was until recently entitled the Conservative and Unionist Party, and it is by reputation the party which cares most strongly about the Union of the United Kingdom. John Major's manifesto in 1997 made great play of the fact that in his view the other three parties were intent on or had policies which would lead to damage to the Union. It is not surprising, in my view, therefore, that the Conservative Governments have been particularly keen to spend money in territories which pose a credible threat to the Union, and those two territories have usually been Scotland and Northern Ireland - not Wales, as I argue in the paper, because Wales has mostly not been a credible threat to the Union. I think that is probably the deepest underlying reason for the failure of Barnett to converge. If I have taken a potshot at Conservative Governments it is only fair of me to take a potshot at Labour Governments as well and say that a third reason has been that not the last two Labour Governments, but the Labour Government before the last two had been very concerned not to lose seats in Scotland because they have needed Scottish seats to form a UK majority government. This has led Labour Governments also to be very sensitive to the needs of Scotland.

  69. Not being a Conservative, though possibly a Unionist, I cannot really follow you down that track. What I am looking for are the more technical reasons why the Barnett formula did not converge, did not produce convergence.
  70. Right. Restricting myself to technical reasons, I would say firstly the failure to adjust population correctly. Secondly, there has always been liberty to spend outside of Barnett, and I believe the Conservative Secretaries of State for Scotland did so with considerable freedom in the years up to 1997. This did not ever operate to the benefit of Wales until 2000 and the row about the Objective 1 status of West Wales and the Valleys and finally the granting of matching funding to that area, which went outside Barnett. So I would say - and I think most others who have studied Barnett would say - that the technical reasons for the failure to converge are mostly those two. There is a third highly technical reason to do with whether Barnett operates on nominal or real expenditure. Up to about 1985 Barnett operated on increases in real expenditure, so that if there were to be an increase in real expenditure in England then there would be a proportionate - proportionate, that is, to population - increase in real expenditure offered to Scotland, Wales and Northern Ireland. But in the 1980s, years of relatively high inflation and in aggregate no real growth in public expenditure, as there was no real growth there was nothing for the convergence mechanism to bite on. In the mid-1980s, for reasons essentially unrelated to Barnett, for reasons of changes in cash planning and so on, the formula changed to operating on nominal increases, and then that meant that although it was not the case that every year there was a real increase in spending in England on public services, it was always the case that there was a nominal increase in spending in England on public services each year, and therefore proportionate to nominal increase, proportionate to number of population, was applied to the other three territories. It is probably difficult for Members to keep this in their heads without the advantage of ----- If you can do differential equation systems in your head, then what I am saying I hope is sufficiently clear to follow, but if not it might be easier on paper. Let me simply assert what is, I believe, mathematically true, which is that once Barnett starts to operate on nominal and not on real targets, then convergence is potentially faster.
  71. Faster?
  72. (Professor McLean) Yes, faster.

  73. Can I turn very briefly to the other aspect of the Barnett Formula, which is what you described as being an anti-rounding-up device - that is to say, it produced a block of spending, a block of money, rather than trying to piece together a whole series of items which were separately calculated - and that, because it was a block item, provided greater discipline, if you like, than building it up from a series of individual blocks. You commend in your paper that particular feature of the Barnett Formula, do you not?
  74. (Professor McLean) Yes.

  75. Is the implication of that that you see that feature of the Barnett Formula - that it works through a common allocation, with its own internal allocation disciplines - as being something that might be an advantage when we are looking at resource allocation systems between the English regions?
  76. (Professor McLean) In a word, yes. I think the move to a block from the previous arrangement where, under Goschen formulae or under simply programme by programme bargaining between what was the Secretary of State for Scotland and now the Treasury Chief Secretary, the Scots could always claim a Goschen proportion, as it were, and if they were good at bargaining they might claim something more than Goschen, so they were always in a position, so people, including Joel Barnett and his civil servants at the time complained, that they were able to get an even higher share of public expenditure than if a Scottish block were offered. In that regard to a great extent I regard Barnett as having been a success. It did offer a block, and this does impose some financial discipline on the Scottish, Welsh and Northern Irish spending departments.

  77. For the benefit of the record, can you explain your reference to Goschen?
  78. (Professor McLean) Yes, I am sorry. George Goschen was Chancellor of the Exchequer in the Government of 1886 to 1892, the Unionist Government which took office after the failure of Gladstone's Irish Home Rule proposals. Because it was a Unionist Government, they needed a formula to keep the Scots and Irish happy, and the Goschen formula was intended to be in proportion to the yield of property taxes in Scotland and Northern Ireland, or that the grant should be in proportion to the yield of property taxes.

  79. Thank you. You have said that in more recent times the convergence effect has started to occur. I wonder if you could explain to the Committee why you think that is the case? Here again I am looking for the technical reasons.
  80. (Professor McLean) The technical answer is that I believe that once the present Government, the 1997 Government, broke out from its self-imposed corset of no public spending increases in its first two years, there were substantial real increases, and therefore even more substantial nominal increases in public spending, and the faster the increase in public expenditure in England, the more the convergence effect of Barnett operates on Scotland, Wales and Northern Ireland.

  81. The Committee has already had evidence, and I suspect will get more, from various people in Wales and the North of Ireland about the so-called "Barnett squeeze" and its effect on them and their desire to change the Barnett Formula. Are they right in thinking that there is a "Barnett squeeze" on Wales and Northern Ireland, and is there also a so-called "Barnett squeeze" now on Scotland?
  82. (Professor McLean) Yes, they are right. I believe there is a "Barnett squeeze" on all three territories. If my rough and ready calculations are right, the effect of the "Barnett squeeze" on Wales would have been that public expenditure in Wales would be pushed too low were it not for the effect of the Objective 1 row of the year 2000. In Northern Ireland my calculations suggest that it is not yet the case that Barnett has driven Northern Ireland below what one might regard as an evaluation of needs, but it will not be very long before that happens. It will take longer in the case of Scotland, but eventually the mathematics implies that it must.

    Mr Tyrie

  83. On this point, just quickly, I wondered if you could say a little about the extent to which the fact that Scotland has revenue-raising powers affects the argument for the retention or the argument against the retention of the block transfer formula?
  84. A. At a practical level, not very much because there are huge political pressures, and I think that there would be huge political pressures against the powers being used, whichever party governed Scotland and whichever party governed the UK. However, from the point of view of a theoretician of public finance, I think there are quite good grounds for saying that greater fiscal autonomy to territories, including Scotland - but it would have to be territories including Scotland, not only to Scotland - combined with a system of equalisation grants, might lead to a system that was equitable and more efficient.

  85. Where would the efficiency come?
  86. A. The efficiency would come from the fact that authorities would have the power to tax and that they would be likely to be blamed when the consequences of their decisions conspicuously went wrong; and they would therefore be more careful about exercising the power to tax. The present situation in this respect seems to me to be the worst of all worlds. The devolved authorities do not have fiscal autonomy, but they also do not have fiscal responsibility because the block grant that they get is a consequence of decisions taken by the UK parliament and the UK executive, so they have no control over that money. It works the other way as well: the devolved authorities can split their spending as between revenue and capital as they choose - that is part of the devolution settlement - and they have a natural incentive to cut down on capital expenditure, let the consequences fall after the next devolved authority election, and, when they do fall, blame the English for being stingy to them. As there is a control, the transfer operates a golden rule, fiscal rules and so on about the ratio of expenditure to borrowing, which are UK rules, there is an opportunity open to the politicians in the devolved administration to do something that brings responsibility to England but which the English cannot control. There is what I hope is a somewhat clearer statement of the point in my evidence.

  87. I am only thinking that the case for transfers is much weaker where fiscal autonomy has been granted and where it has not, is it not?
  88. A. In the case of transfers to an area with approximately average GDP per head it is much weaker, but if Wales and Northern Ireland had taxing powers and their relative GDP stayed as it is now, between 80 per cent and 90 per cent of GDP, then in any reasonable country one would expect there to continue to be an equalisation rate, as there is in Australia, Canada and Germany, such that there would be grants from the centre to those territories as well as those territories having tax-raising powers.

    Mr Plaskitt

  89. In your paper you say, "local government spending began controversially and has become more so." What are the factors that make it more controversial, in your view?
  90. A. It is not local government spending that began controversially, but the formula allocation of funds to local authorities by what is now called SSA began controversially. I am not sure where you are in the paper.

  91. Page 12. The exact quotation is, "The vertical distribution for local government spending began controversially and has become more so."
  92. A. The vertical distribution is distribution from the UK Government to the local authorities. The present system could hardly have begun more controversially because it began in the wake of the poll tax, and the present system is still quite affected by the fact that the government of the day in 1990 had some urgent political needs; it needed to find a distribution system that got it, let us say, out of a hole. As part of the ideology of that government at the time, since there was huge scope for efficiency improvements in local authorities - and certain flagship authorities were exemplars of this - the replacement formula had to be one under which the flagship authorities did reasonably well. At least three separate teams of academic analysts, whom I quote in the paper, have all come to the same conclusion, which is that the formula when set up had the effect of disproportionately benefiting the flagship authorities. That is what I mean by saying it was controversial at the beginning. The reason that I say it remains controversial is that at a technical level with this technical query, there are the severe, and I think fundamentally insoluble problems of using a regression formula where the data comes from the very bodies to whom the money goes: the data comes from the local authorities and the money goes to the local authorities. To my view, that is an insuperable problem, so SSA has never gained legitimacy, and the Government has announced that it is going to abandon it, but has not said what will come in its place. A third problem is that there is a huge and really intractable issue about relative costs and the area cost adjustment component of SSA, where everybody in the policy network in the areas that get it thinks it is too little, and everybody in the policy networks in the area that do not get it think it is too much. As I say in the paper, I believe that one of these sides is right - the trouble is, I do not know which.

  93. Those weaknesses in the system that you describe were in it from the outset, as I recall from also being in local government. I am just trying to get a handle on what has made it get worse.
  94. A. I am not sure that it is objectively worse, only that it now has no friends. In 1990 the Conservative government was its friend; in 1997 I have to assume that the incoming government was happy with it because it did not make any efforts to change it until the Local Government White Paper last December, in which the present Government announced that SSA was no good. I have not heard the Conservatives or Liberal Democrats coming to the defence of SSA, so I have to assume that it has no friends.

  95. That has brought us to the present position. You say we cannot escape from the element of regression. Why is that?
  96. A. That is not what I intended to say: I said that we cannot escape from a problematic element of regression, namely the one I have just mentioned; that it is difficult to avoid the data being drawn from the same bodies that receive the grant. If that problem could be cracked, then in principle I would be happy with the regression-based formula. The problem is tractable for health services because you can get objective data about death, morbidity and so on, from small area census data. Nobody that I know of has yet found a way - and this may something on which the Committee might like to take evidence - for doing that for local government services.

  97. How distorting is the area of cost adjustment and can you see any way of avoiding the distortions in the alternative system?
  98. A. The best way to answer that is for those members that have it to look at the figure in my table. This is the one I earlier promised the chairman to produce the update of (figure 4). That is the one that has a very high spike of spending in London, compared to an inverse GDP basis. I ask you to notice what is, to my mind, very strange about that. The two most prosperous regions, which are also the two other regions where costs are highest, namely south-east and east, are not anomalously high. My conclusion therefore is that either the effect of area cost adjustment on the south-east and east regions is leaving them with too little, or the effect of it on the London region is leaving it with too much. I do not know which of those is the case, but I think one of those must be. The real anomaly is not that London is an outlier but that London is an outlier and east and south-east are not. That is an anomaly that remains to be explained and if the Committee were interested in trying to explore it further with expert witnesses, I think that would be of considerable interest.

  99. We do not have details of the new system yet, and we will learn more about it later this month, but if it is going to avoid, in your view, some of the reasons that the SSA has lost all of its friends, what key features must the new system have if it is to have a home and starting with friends and retaining friends?
  100. A. There are two ways that Government can go. It may sound paradoxical, but one way is to get a more refined formula and the other is to get a more coarse formula. You could get a more refined formula perhaps by trying to get more objective evidence about the factors that cause a local authority to have to spend money, and there is ongoing research in ODPM and a number of other departments on indices of deprivation. That would be the finer approach. You would have to develop an approach whereby the relevant index of deprivation was built up from census data, not from returns by the local authorities. That would get away from the circularity effect. The coarser approach would be to go for something like inverse GDP applied at the level of the region; so instead of going below the local authority, you would go above the local authority. Then, maybe not at this time but in five years' time, you would say to each region, "This is the region's allocation of public spending." I notice that in their written evidence that is what the North-West Development Agency asks for. It would then be up to the region to allocate it to its local authorities. A problem there is that they would then face the same problem as the present Government faces.

  101. Surely, to overcome some of the crudeness that has arisen in the SSA system, what replaces it needs to get more refined or complex, rather than go the other way, does it not?
  102. A. There are pressures in both directions. Mr Beard rightly said earlier that one of the reasons SSA has no friends is that it is impossibly complex to understand, and if you make it yet more complex, it will not gain any friends by that route; and yet you might have to make it more complex to make it fairer, if you go down the finer route.

  103. The system that was felt or seen to be fairer might have a chance of having friends, even if they did not understand how the friends came about.
  104. A. It might.

    Mr Tyrie: That is a very optimistic view.

    Mr Laws

  105. Can I ask you a simple layman's question, following some of this technical analysis. If the Chancellor asked you for a quiet drink down at the pub and said to you: "I have been very convinced that the whole way in which we distribute money within the region within the UK is very unfair. I would like you, from what you know, to develop a perfectly fair system and I am going to set up this inquiry and have you go away and do that; however, please tell me before I set up this inquiry the brutal final result that we are likely to get in terms of which areas and nations within the UK are going to lose, and which will be the big gainers." Without going into the methodology, what advice would you give to him?
  106. A. I think first of all we would have to go to a quieter pub than the Red Lion because it would take a very long time to give an adequate answer to that question. If I can attempt to give an answer, I would say that the answer would depend on how much fiscal autonomy one gave to the territories. If one gave fiscal autonomy to every one of the 12 territories to some degree, and equalisation authority modelled on the Australian Commonwealth Grants Commission, as I commend in my paper, ten you might achieve a settlement that was regarded as fair by all, especially if you had a back-up, a publicly known default, if the parties failed to agree - which, in my paper I propose should be an inverse GDP.

  107. Who would be the big gainers and losers?
  108. A. Compared to where we are now, Scotland would be a loser, at least if this were implemented in the next five to seven years. Northern Ireland would be a loser if this were implemented in the next two or three years. Do not trust these numbers too much, but those would be broadly the points at which they go below needs when continuous in operation. Whether London would be a gainer or loser I just cannot say at the moment because a lot depends on the data. We just do not know whether the London data in particular proves what it seems to prove. If in particular the AOS cost-of-living numbers are right for London, then London would be a loser also -

  109. Who would be the biggest gainers?
  110. A. It looks like the north-east on this table. Looking at the most up-to-date version of my table, the rank order would actually be the south-west; the south-west has overtaken the north-east as the biggest loser region, followed by Yorkshire, Humberside, followed by East Midlands, followed by north-west, followed by north-east of the English regions.

    Mr Cousins

  111. I shall suggest to the Chancellor that he has that drink with you, and then Mr Laws would be one of his most enthusiastic supporters! Is there at present in the Government any mechanism that assesses regional needs, across departments or within them?
  112. A. The short answer has to be that there are not. Departments are working on such measures, but there is no cross-departmental index. Within ODPM I think there is not even a "within departmental" index as yet because ODPM as it is now is itself an amalgamation of many different units, and there are people looking at areas of deprivation and people looking into urban policy. Over at Defra people are looking at rural policy. They all have their indices, and there is nothing like an overall index that I have yet observed in government; nor does the Treasury have one.

  113. So if one looked at a region like mine, which happens to be the north-east, it performs poorly under the indicators where human capital formulation is not good and educational under achievement historically is bad; yet, although it has higher than average spending it does not seem to have spending that corresponds with its needs. Is there any mechanism that exists now within government that could, if we just trusted it and let it get on with it, reduce those inequalities and raise that performance?
  114. A. Unless you trust the SSA for education in that case, my answer has to be "no".


  115. I would like to press you on a couple of points. Are there lessons we can learn from other countries about distributing public expenditure across the regions? The examples you have chucked at us in the paper tend to be federal countries. Are there any other unitary authorities/federal, whichever system we are now in, that have looked at this and come up with some answers?

A. Some specialists say that the French system is one to emulate. I really do not know whether that is correct or not. I would only warn that the French system of government is very different to ours, although both are broad unitary countries. There is a tradition in France that has no equivalent in this country of the local spending being settled by the mayor and the prefect of each regional city, when the mayor is also very likely to be a member of national government. I would be chary of drawing lessons from France, but that is one of many countries in which I am not a specialist, even though, like at least Mr Plaskitt and probably others round the room, I have had to each the politics of France in my time. However, I am pretty rusty on that. I am more confident talking about Germany, Australia or Canada, simply because of this matter, that I know more about them.

Chairman: Thank you very much. That was a fascinating start to our inquiry.