Select Committee on Treasury Minutes of Evidence


Examination of Witnesses (Questions 60 - 79)

WEDNESDAY 7 DECEMBER 2005 (Morning)

MR ROBERT CHOTE, PROFESSOR COLIN TALBOT, MR JOHN WHITING AND MR MARTIN WEALE

  Q60  Chairman: Welcome. Could you all introduce yourselves please?

  Professor Talbot: Professor Colin Talbot, Centre for Public Policy and Management in the Manchester Business School.

  Mr Chote: Robert Chote, Institute for Fiscal Studies.

  Mr Whiting: John Whiting, Tax Partner at PricewaterhouseCoopers and also Chairman of the Chartered Institute of Taxation's Tax Policy committee.

  Mr Weale: Martin Weale, National Institute of Economic & Social Research.

  Q61  Mr Todd: In the earlier session I asked about expenditure plans into the latter part of the projected period and two of the critical foundations for delivering the expenditure plans are savings within the public sector and the delivery of the Gershon projections. Professor Talbot, how far do you think the Government has demonstrated progress in this so far?

  Professor Talbot: Can I first of all question your assumption that the spending plans are dependent on the Gershon savings? The way that the Gershon savings have been managed in terms of allowing departments to retain savings and in any case 40% of them being non-cash savings means that they do not actually affect the overall budget of the department in terms of department expenditure limits. They do affect output issues, which is something I will come on to. On the second part of your question about how much they demonstrated it, I would say not a lot. They are claiming at the moment in the Pre-Budget Report somewhere close to £5 billion-worth of savings. What is striking about this incredibly voluminous report is the lack of detail in it in terms of where that money is actually being saved from. I understand the Treasury has been giving out some slightly more detailed information to the press, although I have not seen it and it is not in here. What I would have expected to see in here was a detailed table by department and spending area of exactly where they are saving money. If they are claiming this £5 million then presumably they have some source for how they constructed it. I suspect the £5 billion is referring to cash savings. I have grave doubts about whether or not you can prove that these are efficiency savings simply because I have no evidence at the moment that either OGC or anybody else who is working on this has come up with a viable way of measuring output in terms of both quantity and quality in the public sector which would enable us to say conclusively that, for example, in terms of the non-cash savings, which is supposed to be increases in output without any extra spending, we have actually managed to do that. I would love to see the evidence from the Treasury to show that they can prove they have done that but so far I have seen absolutely nothing.

  Q62  Mr Todd: Let me take you back to the first thing you said which was that in net terms this should make no difference to public expenditure. Part of the theory behind this programme is that it provides more space for public expenditure transfer between departments and so on if the same output could be achieved for less. Going back to the point you have made here, which is that little evidence has yet been demonstrated, is there an audit process which should be in place which examines whether output is genuinely being generated for less cash? In earlier questions in another session I think we have uncovered that defining exactly what the savings really are can be extremely difficult because they are savings against projected increases very often. What tools do you think should be in place to make us more confident on this?

  Professor Talbot: On your first point as to whether there should be an audit process, there should be. The NAO is looking at Gershon implementation and I understand it is going to be issuing a report round about January on progress against Gershon. I think that will be very interesting and well worth looking at. I think the general issue of metrics, which is how we measure whether or not these savings have been made and particularly whether or not they have been made without a detrimental effect to outputs or whether we have had increased outputs in particular areas, is extremely difficult. If you look at the section in the Pre-Budget Report on delivering high quality public services, as far as I can see there is no mention anywhere in it of the Atkinson Review, which is the only sustained attempt to try and improve the way in which we measure outputs in terms of quantity and quality anywhere in the document, which I find quite odd. It is like the dog that did not bark!

  Q63  Mr Todd: Tied to this are reductions in the workforce and again we have had moving targets as to quite what we are counting here. Can you throw any further light on the progress claimed so far?

  Professor Talbot: Perhaps I could take a step back before I answer the workforce question. One of the interesting things about these figures is that of the almost £5 billion that the Government is claiming has been saved £1.9 billion is from local government, which is said to be about £0.9 billion ahead of target. If that is correct then that suggests, although we do not have the detail to show it, that somebody else is behind target considerably because the £5 billion is roughly what the Government says they ought to be aiming for at this stage. As far as I can see the bit that is behind is central government. Insofar as we do have some figures on staffing reductions here and staffing reduction numbers that have been issued by the Civil Service itself, they seem to be way behind in terms of the sort of targets that they have set themselves. Maybe it is one of these slow starting things and we will see acceleration at some stage in the future. It is not a straight line from last summer to the end point of this.

  Q64  Mr Todd: I think that is what has been said, that there is not a straight line on this process and I do not think that is an unreasonable view to be honest. Finally on this, the Lyons Review is somewhere in this as well, which also would be tied to workforce reduction. What progress has there been on that? It is supposed to deliver some savings.

  Professor Talbot: If you took it as a straight line projection then the figures are slightly low. They seem to be having difficulties with the relocation. I would stress that the Lyons total of 20,000, if you look at the geographical spread of the Civil Service in particular, gets us back to roughly where we were in 1997. It does not redistribute the Civil Service round the regions; it simply corrects a change that has taken place since 1997. Even on that they do not seem to be getting quite as far as they ought to. I would reiterate the point that I made in evidence here on the Spending Review last year, which is that a basic question needs to be asked about this which is not being asked at the moment, which is why, if we have resource accounting and budgeting, is it the case that departments are continuing to put their staff into more expensive places?

  Q65  Angela Eagle: I just wanted to ask in general your view of the microeconomic effect of the tax credit system, Robert Chote, and then move on to ask your view of some of the changes. I think it is important to establish how you feel it is going in terms of Making Work Pay, dealing with poverty and increasing support for families.

  Mr Chote: There is the issue about the fact the Government has made a clear commitment and delivered on it to redistribute resources and then there is the way it has done that. Taking that together, there has obviously been a considerable improvement in child poverty. Next year we will find out whether the short-term target has been met or not, but whether it is or not by a small margin, the progress on that should not be doubted. In the early days it has been possible to do this without causing real problems for employment. The difficulty if you want to keep costs down, you want to encourage work and you want to reduce poverty is that it is always easy to do two of those but it is never easy to do three. They have done quite well on that so far. The question with the new tax credits is whether the continued emphasis on child poverty starts to make the work incentive issues more difficult. One of the important judgment calls now is where the Government allocates the resources because that trade-off is now becoming tougher and if you continue to do what has happened recently, which is to put the money specifically into the child tax credit, that does deliver on the poverty outcome in the short term but it does cause more problems on work incentives. Arguably if you stuck more money into the working tax credit the hit on child poverty would not be as great but the balance might be better over time. There clearly has been good progress. It has not had the detrimental effect some people would have feared, but the tension is now tough.

  Q66  Angela Eagle: That is very helpful. The Chancellor announced in the Pre-Budget Report some changes and simplifications to deal with some of the practical administrative problems that we are all only too well aware of to do with overpayments. There was an unexpectedly large increase in the disregard for increasing income in-year from £2,500 to £25,000 which the Paymaster-General in her Ministerial Statement said would reduce by about one-third the number of overpayments. Could you comment on whether you think that is a helpful initiative which is going to help solve a lot of the problems?

  Mr Chote: I think it is helpful in the light of the sorts of experiences which were being reported by the advisory and advocacy groups and the clear distress that the recovery of overpayments was causing a lot of people. There has always been this choice to be made between having a system that is responsive but which has the potential then for overpayments and the associated difficulties and something which involves fixed awards, which offers greater certainty to people but also cannot respond as easily when the circumstances get more difficult. In a sense the higher disregard is moving us more towards something that is to all intents and purposes a fixed awards system for many people.

  Q67  Angela Eagle: Although it is sticky upwards, it is not sticky downwards, is it?

  Mr Chote: Yes.

  Q68  Angela Eagle: If your income goes down then you get credited with your new level of income and you do not have an in-year problem there, but if your income goes up by £25,000 then you get the same award.

  Mr Chote: Which helps explain why the higher disregard is costing money; it is because there is an asymmetry involved there. By reducing the scale of overpayments the Government is able to save money there. It says the overall package is broadly revenue neutral. Although you have fixed awards in respect of income, the Government is putting more pressure on recipients to respond to other changes in their circumstances, to notify them more quickly. It is more like a fixed awards system and a simpler system in one respect, but the pressure on claimants to declare other changes in their circumstances in some senses could make the system more complicated for people and that is what brings the financial implications overall into check. Clearly there has been a move towards a fixed award system, which I think is what many of the advocacy and advisory groups would have argued for, but there is another side of the coin to it.

  Q69  Angela Eagle: The big challenges in terms of child poverty and the targets lie ahead. Have you given any thought to how the next phase of the target, which is to halve child poverty from the baseline figure, can be achieved?

  Mr Chote: We are in the process of doing a project on that and we will have something to say next year, hopefully. We are coming back to the point about where the tension between the work incentives and the precise focusing comes into play. There is also the issue of whether you think it is appropriate to tackle these issues by income transfers versus spending on services, such as Sure Start, which has its own issues about whether that is value for money or not. If you use short-term targets as staging posts to where you want to get to then in the end the pressure will always be greater to use cash transfers because that gives you a fairly reliable hit on what you are aiming for, whereas if you were standing back and saying "Where do we want to be in 20/25 years' time?" you might have a different judgment about the sharing of resources between services and the cash in people's hands.

  Q70  Mr Mudie: How good is this £25,000 in operational terms? As I understand it, if my income went up in the year I had claimed by £15,000 then the next year nothing would happen and the year after that they would trigger in both the new income plus the back payment. So instead of the hit being the following year now it is the immediate year after. This is postponing it until the following year. Is that right?

  Mr Whiting: To a degree that is right. If incomes go down then there is the need to put in your claim and get a responsive credit. If incomes are going up then in general you are getting your reward on your prior income, unless, of course, you get a very dramatic increase. You are making your claim based initially on the last year. Unless this year's income goes up very dramatically you would continue to get that income. When you make your claim for next year then you are adjusting to what you have got this year. There is a certain lag in it. In practical terms I think this increase to £25,000, which took me by surprise, is as good and as pragmatic a solution to the difficulties many claimants have and, I have to say, HMRC has as well.

  Q71  Mr Mudie: Is it not just postponing the pain a year?

  Mr Whiting: No. It is absolutely solving it for this year. If your income was £20,000 this year you will get an income award for next year based on £20,000. The claw back will not happen unless in this year you are fortunate enough to go from £20,000 to £50,000 and I suppose, being practical, you ought to spot that and tell HMRC! I think it is a very welcome move and it is certainly one we have been calling for to get a practical solution to the design problem inherent in the initial design of the system.

  Q72  Kerry McCarthy: The PBR announced a significant expansion of the disclosure regime. Is there anything that is not covered by the new regime now, any tax avoidance schemes?

  Mr Whiting: I think the answer to that is I do not know because it is an announcement of an intention to expand. We know where they are going to, but what we are told is there will be discussions on exactly how it will be expanded. So we do not have a bit of paper saying how the rules will be expanded. The fact that they are looking at bringing forward the disclosure requirement for in-house schemes much more in line with those advised by outsiders, they are looking at bringing in disclosure of all schemes involved in income tax, capital gains tax, corporation tax, so not just financial and employment products, and looking at the "filters" as we term them, which is where one tries to weed out the chaffs that they do not really need to know about and focus on the innovative, makes it sound as though it is a fairly comprehensive review. It is a good way forward because at the end of the day what they want to hear about is innovative things. We are pleased that there are to be some discussions on exactly how these are going to go forward because at the end of the day one wants practical rules that everybody can comply with and give the authorities what they are looking for.

  Q73  Kerry McCarthy: So you would not share the view of Richard Collier-Keywood, UK head of tax at PWC, who was criticising it for increasing the administrative burden?

  Mr Whiting: That remains the concern and that is indeed a concern obviously I share with my head of tax, that at the end of the day if this creates an administrative burden that is unreasonable then that is going to be a problem. It is about trying to get the balance that gives us practical rules and that is why I welcome discussions. The risk is that it becomes an onerous system where we—be they advisers or taxpayers—spend all our time worrying about complying and trying to work out what we have to disclose. I have to say that HMRC get flooded with lots of disclosures that they do not need to hear about. If that starts to happen the whole system clogs up and becomes burdensome to all concerned and we are back to disclosing a haystack of things and leaving the authorities looking for the needle and that serves nobody's interest. That is the risk. That is why we need discussions to make the system work sensibly.

  Q74  Kerry McCarthy: The Government announced that it would close half a dozen tax avoidance loopholes. How accurate is the Government's assessment that this will lead to a saving of £1.75 billion over the next three and a half years?

  Mr Whiting: I have to say I was surprised when I saw that figure, particularly in the area of capital losses which have been well attacked over recent years. There are some very good and lengthy descriptions of some of the schemes attempted, but it seemed a bigger figure than I was anticipating. Obviously the figures for how much you will gain through closing loopholes and other avoidance techniques are always a bit of a guestimate. There are obviously gains to be made but it seemed quite a high figure.

  Q75  Kerry McCarthy: In 2002 a zero corporation tax starting rate for small businesses was introduced and that has now been abolished along with the minimum rate of 19% corporation tax on distributed profits. What is the likely impact on small businesses?

  Mr Whiting: This is a subject that this Committee has touched on quite a lot in the past. There will be a little bit of relief in the sense that it gets rid of a bit of hassle and there is an administrative saving, but I think most will turn round and say, "Oh for goodness sake, why did you bother with it in the first place?" There will be a certain amount of confusion. I do not think the whole episode has been a very happy one because whilst the possible aim of it in the first place was laudable, ie to reduce the tax on small businesses, the way it was effected left open obvious routes where people would indeed try and save tax. It seems that that is now to be classified as too much, tax saving, it has not worked and they are going back to the beginning.

  Q76  Kerry McCarthy: What would be the implications for the sole traders who went down the incorporation route to get this tax saving?

  Mr Whiting: I think there are going to be an awful lot of sole traders, small businesses, who went down the incorporation route who are now looking at their companies, which of course they have, and thinking, "Is this sensible? Do I need the company?" It is something that we had flagged up already, that there is going to be a number of small traders slightly confused about how they carry on. The company in many cases will just be left and they will then go back to being a sole trader and possibly run into administrative problems in disentangling the company and, of course, incur potential penalties for not filing returns and things like that. There is a little bit of advice here needed for the small business community as to how to disentangle themselves out of what they may have got themselves into.

  Q77  Chairman: We have got a better policy outcome because we have been harking on about this for a while, have we not?

  Mr Whiting: We have a simpler and more direct result, Chairman, I agree.

  Mr Chote: A little bit of stability in this area would now be welcome!

  Q78  Ms Keeble: What evidence is there that the means testing of pensions reduces people's savings over their lifetime? There has been a lot of anecdotal discussion.

  Mr Weale: In work the National Institute has been doing we have been looking at trying to match savings behaviour and employment behaviour. We find that in any question about means testing you have to ask what alternative you are comparing it to. Means testing has a number of effects. For people who face the means test it tends to reduce their saving, but it may also mean that benefits are available to richer people than would be otherwise, that there is generally a bit more money around and those people also face less reason to save because their incomes are going to be higher.

  Q79  Ms Keeble: An awful lot of this debate focuses on the pension credit and the means testing behind there. That is a fairly new benefit. Surely the anecdotal evidence that exists around that is actually just that, anecdotal because of the time lag.

  Mr Weale: I think that is right, but remember that the pension credit replaced the minimum income guarantee, which was a much stronger means test, it was a withdrawal rate of 100% for people in that particular range.


 
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