Examination of Witnesses (Questions 20-39)
MR NICHOLAS
MACPHERSON, MS
MARY KEEGAN,
MS SAM
BECKETT, MS
MRIDUL BRIVATI
AND MR
JOHN OUGHTON
18 OCTOBER 2006
Q20 Mr Newmark: Let us actually focus
for a second on PFI. A basic principle of PFI is to allocate the
risks between the public and private sector according to which
side can best manage them. The ONS's recent review noted that
about half the £46 billion worth of assets in existing PFI
projects was on the public sector's balance sheet. How satisfied
are you that this represents a sufficiently high level of risk
transferred to the private sector?
Mr Macpherson: I think it represents
a perfectly sensible allocation. For all intents and purposes,
where the economic risk lies with the private sector, that is
fine. Equally, where it lies with the public sector, providing
it is affordable that is okay, too.
Q21 Mr Newmark: Have you got any
assessment or internal judgment as to what proportion of risk
you consider should actually trigger a review of a PFI initiative
to test whether it is transferring sufficient risk to the private
sector, as opposed to the public? I am interested in what analysis
you go into, because I have a third question here to follow up
on this.
Mr Macpherson: It is absolutely
right that we should have an understanding of what our commitments
are under the Private Finance Initiative and we publish those
regularly at the time of the PBR and Budget, and it is absolutely
essential that that should be factored into our fiscal planning,
but beyond that we do not have some particular ideological predisposition
one way or the other, no sort of theological view about what is
the precise level of risk which should be transferred in these
cases. What we do need to have an understanding of, however, is
ultimately where the accountants will decide the asset should
reside, and there are perfectly sensible rules agreed by the accountancy
profession, which Mary may want to expand upon, which inform that
judgment and we are happy to defer to that judgment.
Q22 Mr Newmark: So you do not get
a sense that there is a Treasury initiative or strategy that in
order to finance a lot of these projects they are trying to push
things off-balance sheet because if they do not push it off-balance
sheet they will not be able to meet their sustainable investment
rule? You do not get any sense of that going on?
Mr Macpherson: No, I would not
recognise that. You are right that ultimately there is a capital
constraint, but I would strongly want investment decisions to
be based on what is the best value for money rather than tinkering
around the margins, trying to move an asset from the private to
the public or the public to the private sector. Mridul, do you
want to comment on that?
Ms Brivati: Yes, if I may. Obviously
the sustainable investment rule is one of the key fiscal rules
which the Government operates its policy against. However, the
Treasury has no powers and no locus to decide whether any individual
project is on or off-balance sheet. Those decisions are taken
on a case by case basis, and the numbers you mention are the aggregate.
Q23 Mr Newmark: Yes, but there is
more and more which is going on PFI and there is increasing evidence—and
I will give you examples—where PFI initiatives have been
taken off-balance sheet and have then had to be brought back on-balance
sheet. In August 2005 there was one and a quarter billion bonds
issued by London & Continental, which is responsible for the
Channel Tunnel. That was ultimately brought on-balance sheet.
You had the Queen Elizabeth Hospital in Woolwich which was declared
bankrupt and ultimately the Government had to step in. That is
another £100 million. You had a further £5 billion of
LCR debt which was out of the balance sheet by the ONS in February
this year, and then the ONS added an estimated £5 billion
for the imputed finance lease liabilities up to March 2006. So
I am beginning to pick up a pattern—and correct me if I
am wrong—that the Government, in order to meet its sustainable
investment rule, is using PFI more and more and not allocating
appropriately the risks which should be effectively on-balance
sheet versus off-balance sheet.
Ms Brivati: The decisions about
whether any individual PFI project is on or off—and that
will apply to each of these four cases—is taken by the commercial
auditors employed by the public sector organisation which undertakes
the investment. I have no detailed knowledge of the cases you
mentioned or why the LCR and Woolwich cases resulted in a change
of mind, but that change of mind would have been a change of mind
on the part of the auditors. Mary will be able to say more about
the rules which auditors apply to arrive at those decisions.
Q24 Mr Newmark: My final question
in that context, Mary, is do you feel then that accounting standards
need to be tightened up?
Ms Keegan: That is a very difficult
question for me to answer. As you realise, I was, before I came
to the Treasury, Chairman of the Accounting Standards Board. The
UK accounting standards under which PFI is accounted for, both
in the private and public sector (it is the same standard which
applies to both sides of this equation), was issued some considerable
time ago and my personal view is that both the private and the
public sector have had a lot of time to get used to applying it
and on the whole are doing it quite well. The UK standard does
rely upon some judgment, though, on the balance of risk and reward.
I think we can look to the future towards a change—
Q25 Mr Newmark: In simple language,
does that mean a tightening up of accounting standards?
Ms Keegan: I am sorry if I am
taking a little time but, as you know, the UK private sector companies
now use international accounting standards, as required by European
law. Those international standards, probably within the next two
to three years, will include a standard which will apply on PFI
and will slightly change the rules, but we do not know yet when
to expect it to be applicable in the UK. The International Accounting
Standards Board has yet to issue it. I am sorry if that is a long
answer. The UK standard is good and is well applied.
Q26 Mr Newmark: But yes or no? Do
things need to be tightened up, is my simple question.
Ms Keegan: No. The UK standard
works very well.
Q27 Mr Newmark: No, with respect
to PFI.
Ms Keegan: Yes, the UK standard
with respect to PFI works very well, but I am informing the Committee
that in due course there will be a change because we can expect
a different form of international standard.
Chairman: Okay. Thank you.
Q28 Peter Viggers: A parliamentary
body, of which I am a joint treasurer, received a letter from
the Chief Secretary to the Treasury saying that in line with departmental-wide
guidelines the Budget was to be reduced by 5% a year, offset by
3% allowed for inflation. Do you recognise that as being a departmental-wide
rule, or does it apply simply to parliamentary bodies?
Mr Macpherson: I very much recognise
it as a departmental-wide rule, and some parts of the Treasury
are going to be operating an even more stringent rule than that,
but it is a reflection of our CSR settlement.
Q29 Peter Viggers: Can you point
in the annual report to where this is highlighted?
Mr Macpherson: Yes, I can. It
is not in any of the tables yet because the CSR settlement was
announced in the Budget, which was March 2006. But we did try
and update the report. In paragraph 6.2, on p 56, we incorporated
this "hot off the press" news because this departmental
report, to my recollection, was published in May. So we try to
incorporate the latest information, but we will be setting out
more details in our next report.
Q30 Peter Viggers: I thought it was
a surprisingly comprehensible statement of general principle.
Where did the point of general principle come from? Is this a
political judgment?
Mr Macpherson: The way I would
put it is this: the 2004 Spending Review incorporated the original
Gershon analysis around the scope for making efficiency savings
across government and in particular identified that it was possible
to make, I think, 2.5% a year efficiency savings. Consistently
with that, admin cost limits were, I think, frozen in cash terms,
which was consistent with a 2.5% real reduction. I think the view
which has emerged since then is that not only is it possible to
make progress on Gershon but that especially when it comes to
the Government's administration costs it should be possible to
go further, and that has been reflected in the settlements which
were announced in the Budget, not just for the Treasury (which
is a very small department by any standards) but also for the
Revenue and Customs and the Department for Work and Pensions,
all of whom got a settlement consistent with the numbers you set
out.
Q31 Peter Viggers: Because a 5% cut
across the board sounds a very crude weapon, indicating that something
must have gone wrong before to cause this reverse out of the cul-de-sac?
Mr Macpherson: I would disagree.
I think there has been a challenge across government really to
embed an efficiency culture and this is not really anything new.
It is always a problem where you are not subject to market disciplines.
I think the Gershon Review has actually begun to embed a new culture.
It has encouraged all of us who are responsible for managing public
sector organisations to be more ambitious and in my view certainly
the Treasury settlement is deliverable. I recognise it will have
implications for all sorts of organisations which are associated
with the Treasury, be it the Bank of England, the Royal Mint,
or even your parliamentary associations. It is never easy implementing
these settlements, but I believe it should be do-able.
Q32 Peter Viggers: You have produced
a dry run of your whole of Government accounts. When does the
Treasury plan to publish the first set of fully audited whole
of Government accounts, please?
Mr Macpherson: As I think we made
clear in the document which we published at the time of the pre-Budget
Report last year, our aim is to publish a fully audited balance
sheet in respect of 2006-07, subject to sorting out the remaining
methodological issues.
Q33 Peter Viggers: Would one of those
issues be the Comptroller and Auditor General's concerns about
the treatment of PFI accounts?
Mr Macpherson: I do not think
that is a special concern, but Mary is uniquely placed to update
you on what those concerns are.
Ms Keegan: Yes, Mr Viggers. There
is a number of things on which we are working very closely with
the Comptroller and Auditor General and his team at the NAO. Putting
together the whole of Government accounts is no easy task. We
are talking about the whole public sector. The Comptroller and
Auditor General has expressed some concern about the treatment
of PFI in some parts of the wider public sector (not in central
government but in some parts of the wider public sector) where
the Audit Commission is responsible for audit but sends out some
parts of that audit process into the independent private sector.
We have been working with the Audit Commission and the NAO and
it has come to our attention that in some cases the audit firms
in the private sector have taken different views on apparently
similar cases on PFI. We have formed a working group with those
auditors, with the Audit Commission and the NAO, and are actively
working on encouraging them to reach in the future a very common
view, where we can, of similar projects in the wider public sector.
But this is a small part of the whole infrastructure.
Chairman: We are going to have to suspend
for 10 minutes. If there is a consecutive division, then we will
resume about twenty-five past.
The Committee suspended from 3.00 pm to
3.25 pm for a division in the House.
Q34 Peter Viggers: If the commercial
auditor of the body which is the subject of the PFI is the person
or body which decides whether an item is on-balance sheet or off-balance
sheet, I can understand one would have some responsibility for
giving guidance, but it is not actually that institution's problem,
is it, because if the body should run out of money and need support
it is the Government's problem, or the local authority's problem,
or the PCT's problem, not the problem of the individual subject
of the PFI?
Mr Macpherson: That is, of course,
true, although it depends what sort of institution it is. There
may well be some organisations which are formally in the private
sector which the Government would be only too happy to see go
to the wall if they failed, but the critical point, I think, in
terms of planning public spending, which is the Treasury's interest
in this, is that departments should take responsibility for understanding
the financial implications of their procurement, whatever that
might be. So I think it is very important, let us say, that the
Department of Health understands in the case of a hospital being
built where that asset will ultimately reside, and we need to
know from a planning perspective. It is very striking, going back
to some of the earlier examples, that yes, there are some assets
which have been re-classified, but the large bulk of assets have
remained firmly where they have always been, whether in the public
or the private sector. We have an interest in understanding where
those assets are and departments need to manage their assets,
which is one reason why in the context of the Spending Review
we have placed a big emphasis on departmental asset strategies.
Q35 Peter Viggers: As to whether
a body is classified as being on-balance sheet or off-balance
sheet, it is only a matter of classification. It does not actually
change the nature of that body, does it, or the risk?
Mr Macpherson: Clearly with some
assets it is blindingly obvious where they are. Take Defence assets,
for example. Defence is not something you contract out to anybody
and it is squarely in the public sector. In other areas where
the Government is contracting with private sector agents who deliver
a service, the assets of that company will be squarely in the
private sector. There are some areas which are more complex and
contested. I think from the point of view of planning public spending
and understanding where the public finances are, it does actually
matter where something is classified, but I think from our perspective
investment decisions should not be determined purely by that consideration.
Q36 Peter Viggers: If all the PFI
projects under health authorities and local authorities were to
be classified as on-balance sheet, what would the effect be on
public finances?
Mr Macpherson: That is actually
very difficult to determine, and it is not because I want to obfuscate.
When something is on-balance sheet its effect on net debt, for
example, is determined by two factors. One is the point at which
that asset is delivered. So you get these huge aggregates, and
I come back to the earlier point that people say there are £45
billion worth of PFI deals and they should all somehow be in net
debt. The point at which the asset goes on the public sector's
balance sheet is the point at which that asset is delivered. So
if that asset is not going to be delivered for another 10 years,
it will not be on our balance sheet until then. But there is a
second point: in relation to PFI deals the Government is usually
paying a unitary charge and that unitary charge will include an
element, which is repaying the debt, so over time the debt which
is on the public sector's balance sheet is reduced with those
payments. So simply adding up a whole load of deals does not actually
give you the answer, and that is one reason why, with the ONS
announcement last week of £4.95 billion, some people were
quite surprised that that was a relatively low figure. It did
not personally surprise me very much, but it was because of those
two points.
Q37 Peter Viggers: Surely in any
private sector organisation you would have a risk matrix with
the global risk, which may be small, ranging through to a risk
which may be high, so you have a smaller amount which is high
risk and a larger amount which is low risk. Surely you have that
matrix? Surely you have the global figure?
Mr Macpherson: We are continually
analysing what the likely trajectory for net debt is and you would
expect us to do nothing else, because we are responsible for that.
So we do analyse it, but the one thing I can absolutely assure
you is that even if every PFI deal was classified to the public
sector tomorrow that would not translate on a pound for pound
basis to our balance sheet for the simple reason that a lot of
those assets have yet to be delivered, and of those which have
been delivered as each year goes by we are paying off quite a
lot of the debt.
Q38 Mr Newmark: Although the tail
is longer than 25 years and you use a 25 year duration?
Mr Macpherson: The tail may be
slightly longer than 25 years, but generally it tends to be in
that sort of ballpark. What is the Treasury building? That is
30 years, is it not, Mary?
Ms Keegan: Thirty-five.
Mr Macpherson: Thirty-five, yes.
Q39 Peter Viggers: Just moving on
to targets on debt relief for overseas nations, for your 2002
PSA target on debt relief to be met 32 highly indebted poor countries
should have received irrevocable debt relief by 2006, and according
to your annual report just 18 such countries received debt relief.
On what basis have you therefore come to the conclusion on, I
think, p.21 that your performance is on course?
Mr Macpherson: Although some progress
in relation to some countries has been slightly slower than we
expected, we are very confident that that slippage will be made
up in order for us to hit the target.
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