3 The Public Finances|
The state of the public finances
38. At Budget 2009, we noted that the public finances
had deteriorated significantly.
Public sector net borrowing (PSNB) was projected to be higher
than at any time since the Second World War. Public sector net
debt (PSND) was almost double its upper limit under the Sustainable
Investment Rule which stated that PSND should be below 40% of
GDP in each and every year of the economic cycle.
As the Pre-Budget Report says "the financial crisis and global
downturn have had a profound and persistent impact on the public
3 shows the key fiscal projections in this year's Pre-Budget Report.
Table 3 : Summary of fiscal projections from the
Pre-Budget Report 2009
Source: HM Treasury
39. The changes in the public finances forecasts
between recent previous PBRs and Budgets have been substantial.
For example, Public Sector Net Borrowing for 2009-10 increased
from £38bn in Budget 2008, to £118bn in PBR 2008, to
£175bn in Budget 2009. However, in this PBR, the state of
the public finances is broadly similar to Budget 2009. Public
sector net borrowing is estimated to peak in 2009-10 at £178bn
before falling to £96bn in 2013-14. Relative to Budget 2009,
the PBR net borrowing forecast is higher in earlier years and
lower towards the end of the forecast horizon. The national debt
is predicted to rise from 44% of GDP in 2008-9 to 77.7% of GDP
in 2014-15, a rise of £854bn. PSND more than doubles from
2008-9 to the end of the forecast period six years later. The
largest difference in the PSND forecasts from this year's Budget
to PBR is £9.7bn, which is less than 2% of the debt.
The timing and pace of fiscal
40. This Pre-Budget Report sets out the Government's
decisions about the timing of fiscal tightening. The document
explains the Government position is to "provide support for
the economy, where it is needed, through the downturn"
but when the economy and financial markets recover "the Government's
actions will move [
] to setting policy to provide conditions
for future growth".
In summary the Government will conduct a fiscal loosening over
the next financial year to support an economic recovery before
commencing fiscal tightening in 2011-12 to rebuild the public
finances. The Pre-Budget Report recognises that sound, sustainable
public finances are "essential to macroeconomic stability
and the long-term health of the economy". 
However, the Chancellor's view was that withdrawing support too
quickly would be a "profound mistake".
Mr Ramsden supported this view, highlighting that the economic
recovery was not yet secured and so a balance between providing
Government support and reducing the structural deficit was required.
41. Choices about when fiscal tightening should begin
and how quickly it should proceed are likely to have profound
effects on our economy. The Governor of the Bank of England considered
there would be adverse consequences if the deficit were closed
too aggressively but he also stressed that there would be negative
effects if too much time were taken to reduce the deficit. Mr
As to the debate about whether we should remove
the stimulus too soon or too late we should do it at the right
Unfortunately there is no common definition of the
"right time" for fiscal consolidation, and we have seen
42. Mr Weale believed that the PBR proposals represented
a substantial adjustment, citing cuts in government consumption,
and he was unsure that the public were aware of the impact of
Government plans from 2011.
I think there is substantial shock built in starting
in 2011 and people are having difficulty grasping the magnitude
even of that.
Accordingly Mr Weale's preference was for a longer
path for fiscal consolidation than that set out in the PBR.
However Ms Ward was disappointed that the PBR planned to increase
spending and described the size of the deficit as being "back
to stage one".
43. There is general agreement that the timing and
pace of fiscal consolidation should be contingent on the state
of the economy.
Mr Robert Chote, Director of the Institute of Fiscal Studies,
said that it might not be right to halve the deficit over four
years if, for example, the economy were in recession.
The Chancellor said that the Treasury would reconsider its proposed
path for fiscal tightening if the economy performed better than
Clearly if things are better than I expect in
a couple of years' time, if it looks like growth is taking place
more strongly, then we would want to do more to reduce the structural
Although the Chancellor did not comment on how he
would act if growth were slower than forecast, Mr Ramsden stressed
that decisions about fiscal consolidation are revisited at each
Pre-Budget Report and Budget;
we infer the Treasury would reconsider the economic circumstances
and alter the planned path of fiscal tightening accordingly.
44. There was agreement about the need for a fiscal
consolidation plan to be credible. Mr Chote stated that trust
in the forecasts affected the extent to which plans were considered
credible. He remembered when Treasury forecasts of revenue receipts
were criticised for being too high and the then Chancellor defended
them repeatedly until after the election, when they were adjusted
also said that more detail of where spending would be cut or tax
raised would improve the credibility of the PBR.
When we discussed fiscal consolidation with the Governor of the
Bank of England, before the Pre-Budget Report appeared, he considered
that for a plan to be credible, a large part of the deficit must
be reduced over a period "for which an administration can
be held accountable".
The Pre-Budget Report attempts to achieve this goal. Mr Ramsden
believed that the PBR contained "a very clear consolidation
the PBR is very clear in setting out the scale
of the challenge and also in setting out the consolidation that
is going to ensure that public finances stay sustainable so that
we see the structural deficit falling, that is, the cyclically
adjusted public sector net borrowing falling from our estimate
of 9% this year, 2009-10, down to around 3% in 2014-2015. That
is a fall of 6% in the structural deficit over that period, a
very significant consolidation.
45. We appreciate that deciding the right time
for fiscal consolidation requires making a fine judgement about
the resilience of the recovery. As we have explored earlier, there
is currently considerable uncertainty in the economic outlook;
and any fiscal consolidation will have to function in that context.
It may be difficult for any current consolidation plan to command
universal support. It will therefore be very important to add
greater detail and clarity to the plan sooner rather than later.
The Structural Deficit
46. Since the PBR was published, much commentary
has focussed on the Treasury forecasts of the UK's structural
deficit. The structural deficit shows how much Government has
to borrow excluding the effects of the economic cycle such
as that benefit spending is higher during a downturn or tax receipts
are higher during a period of strong economic growth. Removing
the effect of the economic cycle gives measures that "estimate
the level of the deficit that can be expected to apply on average
over the course of an economic cycle".
47. The cyclically adjusted net borrowing forecasts
(which include net investment) in the PBR are slightly lower than
those in Budget 2009. In the latest PBR, the Treasury's estimate
of the structural deficit in 2009-10 has come down from 9.8% of
GDP to 9.0% of GDP. From 2009-10 the structural deficit is projected
to fall rapidly to 3.1% of GDP in 2014-15. Chart 2 below illustrates
the structural deficit forecast from the latest three Budget/PBR
Chart 2: HMT projections for the structural deficit
(cyclically-adjusted net borrowing) as % of GDP from PBR 2008,
Budget 2009 and PBR 2009
Source: HM Treasury
48. Our expert witnesses expressed concern about
the uncertainties around the structural deficit forecast.
Martin Weale from NIESR believed the forecast was too optimistic
and maintained that the Treasury should publish the actions it
would take if the structural deficit were higher than forecast.
Karen Ward, HSBC's UK Economist, said she was "in the dark"
about how the structural deficit closed so quickly in the Treasury's
I still do not think we have enough information
about this structural deficit to make informed judgements that
it is going to close over the forecast horizon.
Professor Dow believed there was significant uncertainty
around both how the Treasury calculated the structural deficit
(around cyclical adjustments and the adjustment to the trend rate
of growth) and how it would be reduced.
49. The structural deficit is calculated using an
estimate of the output gap.
Mr Weale commented that "nothing is more poorly estimated
] the output gap after a recession"
implying a high level of uncertainty around the forecast for the
structural deficit. Mr Weale also believed that the house price
assumptions that the Treasury used were too buoyant
suggesting a risk that the structural deficit would be greater
than the Treasury forecast.
50. Unsurprisingly, the Treasury views on the outlook
for the structural deficit were more positive than those of the
expert witnesses. Both the Chancellor and Mr Ramsden repeatedly
stressed that considerable caution was built into the public finance
forecasts, for example in assumptions about the VAT gap and unemployment.
When questioned about the proportion of net borrowing due to non-cyclical
factors, Mr Ramsden stated:
We think that [the fact that 70% of PSNB is structural
borrowing] is a prudent assumption of the scale of the structural
position of the public finances. Because it is cautious it could
well turn out to be smaller than that.
51. The Treasury also defended the level of detail
around how the deficit will be closed. The Chancellor explained
that "a combination of tax, efficiencies and reductions in
will take £57bn out of spending".
Mr Ramsden told us that the PBR did contain information about
how the deficit would be reduced over the forecast period, and
that some figures had been given for later consolidation:
It [the PBR] shows that two-thirds of the consolidation
which I was describing at the outset, that is the discretionary
policy measures, the £57 billion, two-thirds of those were
on the spending side and one-third on the tax side. That takes
us through to the end of the forecast period. There is then the
period beyond that, 2015-16 and beyond, where we have said that
we have put some illustrative consolidations in for what would
be required to get back to a cyclically adjusted current balance
in, I think it is, 2017-18. We have not given any detail on those
because they are beyond the forecast horizon [
52. We have previously stated that a plan to restore
the health of the public finances must deal with the structural
deficit. We acknowledge the Treasury aims to cut the deficit from
9% of GDP to 3.6% of GDP in 4 years. However we note that although
the Treasury believe the Pre-Budget Report contains sufficient
detail about the way in which the structural deficit would be
reduced, our expert witnesses all criticised the document for
not providing enough information about how this will be achieved.
53. The Treasury use what they describe as cautious
assumptions in the public finances forecasts. Some economists
consider the structural deficit forecast is overly optimistic,
many are concerned about the large uncertainties surrounding this
forecast in particular and some doubt whether sufficient attention
has been given to the structural deficit existing before the recession.
Future Budgets and PBRs should attempt to quantify the downside
risks around the structural deficit forecast.
54. The PBR confirmed that overall departmental spending
for 2010-11 is unchanged. However, the Treasury announced that
from 2011-12 spending growth would fall to help close the structural
deficit. The Treasury has committed to increasing public sector
current expenditure by on average 0.8% per year in real terms
from 2011-12 to 2014-15. During this time, public sector net investment
is planned to stay at 1.25% of GDP (down from 3.2% in 2008/9).
55. These are high level, headline, figures. The
PBR does mention spending plans for some specific areasthose
that will see either rises in line with inflation or higher. It
is projected that NHS front line spending in 2011-12 to 2012-13
will rise in line with inflation, spending on front-line schools
will increase by 0.7% in real terms for those two years.
56. Mr Chote summarised the spending profile outlined
in the PBR:
There is a discretionary spending increase of
roughly £4bn in 2010-11 rising to £7.7 in 2011-12, £7
in 2012/13 and then beginning to fall back a bit .
Despite this information, Mr Chote would have liked
the PBR to provide a "clearer picture on what the outlook
is for public spending on public services".
He stated that:
In an ideal world what we would like to do
to be able to say how much does the Government think it is going
to have to spend on annually managed expenditure [AME]
then leaves you with a picture of what you have to spend in departmental
expenditure limits [DEL]
57. The IFS based calculations for future departmental
expenditure on information in a Treasury document leaked after
Budget 2009 which contained a breakdown between DEL and AME (including
a split of the main components of AME). The Institute used the
information to estimate that departmental spending would fall
on average by 3.2% a year over the three years of the next Spending
Review. Mr Chote
considered this left a £15 billion cut that was unaccounted
for in the PBR:
the total cut required [in departmental
spending] is £36 billion. If you take the Government's words
that they can cover £11 billion of this by efficiency savings,
£3.4 billion by a public sector pay squeeze, £1 billion
from public sector pensions and £5 billion from cuts to lower
priority budgets that have been identified, that is taking 20
away and leaving you with 15.
However, Treasury officials did not recognise the
IFS calculations and would not comment on leaked documents.
Mr James Richardson, Director of Public Spending at the Treasury,
told us that there have been no decisions about departmental spending
after the end of the current Spending Review period.
58. We acknowledge the considerable uncertainties
which affect the PBR. Those uncertainties are both political and
economic. While some may think that a Spending Review should have
been carried out before the next election, others will consider
it is correct to defer such an exercise until there is at least
some political certainty. The absence of a Spending Review, means
that from 2011-12 the UK may temporarily return to an annual expenditure
cycle. Should this happen, we urge colleagues on other Departmental
Committees to scrutinise their department's financial documents
59. There is a sense that the Treasury are using
uncertainty to suit themselves. Despite substantial uncertainties
they still produce some forecasts out to 2014-15 and illustrative
projections out to 2017-18. We can see no good reason for the
Treasury failing to produce illustrative figures for future expenditure,
at least the projected split between DEL and AME. We recognise
that there will be uncertainty in these figures, but they are
produced as part of the Spending Review process so there appears
to be no argument of principle against their publication. The
Fiscal Responsibility Bill will tie the Government into a fixed
timescale for managing the deficit, and this will require close
Spending Reviews and parliamentary
60. Since 1998, details about Government spending
have been provided in Spending Reviews. The Treasury states that
"Spending Reviews set firm and fixed three-year Departmental
Expenditure Limits and, through Public Service Agreements (PSA),
define the key improvements that the public can expect from these
The last Spending Review was in 2007 and set out spending plans
61. The Chancellor said in his Pre-Budget Report
Speech that "As long as extraordinary uncertainties remain
in the world economy, this is not a time for a spending review".
The lack of a Spending Review covering from 2011/12 onwards was
the Treasury's key defence against having detailed spending plans.
The Chancellor's view was that when growth becomes established,
the situation would be more certain. He believed that given the
current uncertainty, allocating spending up until 2014 would have
been "very difficult".
62. Professor Heald believed that the system of Spending
Reviews had been helpful for improving forward management of public
he made the interesting point that Spending Reviews had affected
the process of parliamentary scrutiny of public spending:
If you go back to the days when there were annual
public expenditure White Papers published in February or March
there was a much bigger dialogue between Parliament and the Treasury
about the detail of the numbers. The Spending Review system with
the habit of having a Spending Review in July marginalises Parliament
UK Government basically believes that it controlsthe Executive
controlsthe process of setting public expenditure plans,
and Parliament has very little role in that. So although I am
not surprised at the absence of future public spending plans,
it does point to a fundamental problem.
63. Mr Chote described the difference between the
theory of spending reviews, and how the process has worked.
In theory you would like the Spending Review
to be a holistic, strategic exercise in which everything is thought
and then you present a full set of spending decisions
across all departments. That is not how any Spending Reviews have
worked in the past in practice. On some occasions good news is
fed out in advance; in some cases bad news is fed out in advance.
64. It may be inevitable that the Government will
attempt to manage information, but we acknowledge that the Treasury
has attempted to improve the system of Parliamentary scrutiny
and approval of government expenditure. The 'alignment project'
has been developed over the last three years, in close consultation
with this Committee, and colleagues on the Liaison Committee and
elsewhere. It is intended to make it possible to reconcile the
financial figures given in the various Government documents which
detail expenditure. The Liaison Committee has made proposals
which would allow the House more say over future expenditure;
however, these proposals will only be effective if the Committees
have sufficient time to consider the Government's plans before
they are debated.
65. It is generally agreed that the Spending Review
process has introduced more transparency and certainty about medium
term plans. The Liaison Committee, in cooperation with this and
other Select Committees, has already produced proposals to improve
the way in which the House and its committees can scrutinise these
medium term plans, linking the process to the system of annual
authorisation of expenditure. These proposals have been endorsed
by the House of Commons Reform Select Committee.
We look forward to these proposals being debated and urge continuous
dialogue between the Government and the House of Commons on how
to ensure the Spending Review is timed in a way which allows effective
we are pleased to acknowledge that the Government has already
taken one step to improve financial scrutiny. In our Report on
last year's PBR we recommended that "the Government makes
available a full day's debate for the Pre-Budget Report."
The Government has now agreed to our request, and has announced
a full day's debate, with sufficient notice to enable us to prepare
and publish this Report before it takes place.
67. Since the Budget 2009, the central government
net cash requirement for 2009-10 has been revised to £223.3
billion: an increase of £2.5 billion. There has also been
an increase in the net financing requirement of £5.1 billion
which now stands at £242.9 billion compared with £237.8
billion as stated at the Budget. This increase in the net financing
requirement is the net effect of the increase in the central government
net cash requirement of £2.5 billion as noted above, a reduction
in the contribution from NS&I of £0.5 billion, and an
increase of £2 billion in the financing of the Official Reserves.
68. In order to meet this increased net financing
requirement, the Debt Management Office (DMO) will now have to
issue £225.1 billion of gilts, compared to the £220
billion forecast at Budget 2009.
The majority of these additional gilts will be long-maturities
and index linked gilts (£4.8 billion) with only a small proportion
of the additional gilts being issued as short and medium term
gilts (£0.2 billion and £0.1 billion respectively).
Looking forwards, the central government net cash requirement
for 2010-11 is estimated to be 11.8% of GDP, or £174 billion.
69. Both the Chancellor and Mr Ramsden were keen
to emphasise the UK's success in issuing the high level of Government
debt seen so far during 2009-10. The Chancellor stated that:
Yes, we are selling a lot of gilts at the moment.
We have been able to ensure that those gilts have been covered,
with the one exception just at the end of March. I think we benefit
from the fact that if you look at the maturity of our gilts, the
average maturity is a lot longer in this country than it is in
others, about 14 years compared with Germany or France which are
about 6, and that means that we have longer term financing, we
have arranged longer term finance so we are not continually rolling
over debt and so on.
70. However, in January 2009, the Chancellor of the
Exchequer authorised the Bank of England to purchase high-quality
assets and gilts from the market with the aim of improving liquidity
in the credit markets. The facility was called the Asset Purchase
Facility (APF) and the process is known as Quantitative Easing
(QE). Since January, the Chancellor has authorised up to £200
billion to be spent in the APF, with the current total of assets
purchased being £190.1 billion. Of this total, £188
billion were UK gilts.
71. If the DMO issues its forecasted £225.1
billion gilts, and the total purchased by the Bank of England
under the APF does not increase by April 2010, the net amount
of gilts sold on to the market during 2009-10 will be £37.1
billion. As the Bank of England draws close to the limit on the
APF and no longer purchases UK gilts, the Government will find
that its major end-customer since January 2009 will have left
72. Mr Ramsden replied to the Committee's concerns
about future gilt demand with a number of reasons to believe that
demand would still be robust after the conclusion of the QE programme:
The structural demand for gilts from pension
funds and insurance funds is strong and that plays into the average
maturity in the UK which is strikingly longer than for
other economies. We have got the new liquidity standards which
are going to be implemented by the FSA
that will require
financial institutions to hold more Government bonds. Particularly
to your point, in terms of gilt sales, before QE started, so in
the final quarter of last year, in the first quarter of this year,
we sold over £50 billion a quarter, so it shows there was
significant demand there from the private sector. That is in line
with the projected average quarterly issuance that we have for
2010-11 on the basis of current assumptions
year, the DMO sold gilts that are outside of the Bank's purchase
range successfully. We have had several auctions of index linked
bonds. We think there is good demand out there and that demand
73. In our Report on Budget 2009
we recommended that the Government work up contingency plans for
a weakening in demand for Government debt. In addition to the
annual meetings with dealers and investors, the Government introduced
mini-tenders (smaller auctions which are organised and implemented
quicker than the traditional auctions) and a top-up facility after
each auction allowing successful bidders to subscribe to an additional
10% of their bid after the close of the issue.
In addition the Government has also held more syndicated auctions.
74. Both the Chancellor and Mr Ramsden offered
reassurance on future demand for UK gilts. We also note the methods
now employed by the Government to reduce the risk of uncovered
auctions, such as syndication, mini-tenders and top-up auctions.
We are pleased that there have been no more additional uncovered
auctions since that reported in the Committee report on Budget
2009. However, there remains the risk that the combination of
the large amount of gilt auctions planned in 2010-11 and the cessation
of Quantitative Easing will result in an excessive supply of UK
gilts onto the market at a time when other governments will be
offering similar products, with the possible result that auctions
are uncovered and yields increase.
UK Credit Rating
75. On 8 December 2009, the credit rating agency
Moody's stated that they rated the UK as having an AAA 'resistant'
a downgrade from their stronger rating of AAA 'resilient'. Currently
the U.S. is also rated as AAA 'resistant', but other European
countries such as Germany and France have maintained the higher
'resilient' rating. This rating reduction follows Standard and
Poor's downgrade of the UK's economic outlook in May 2009 from
'stable' to 'negative'. 
76. In our evidence sessions, Mr Ramsden stated that
he had 'no concerns' about a possible further downgrade of the
UK, and this sentiment
was reiterated by the Chancellor the following day;
I believe that people looking at us objectively
should see that you have here a strong economy with a great deal
of capacity in it. You will see that the Government is determined
to ensure that it reduces its borrowing, just as the Government
is keen to ensure that it sees us through to recovery, and we
are not there yet but we are getting there. As one of the Agencies
observed I think a day after the Pre-Budget Report it regarded
us as being a resilient country, which is what we are.
77. When questioned about the possible increase in
debt costs as a result of a downgrade, Mr Ramsden responded that
credit rating agencies 'follow rather than lead the markets';
any downgrade of a country would have already been priced into
the market prior to the rating agency's decision to alter their
rating. This agreed with what Mr Robert Stheeman, Chief Executive
of the Debt Management Office had said in the Sub-Committee's
evidence session on 21 October 2009:
in my experience our sense is that actually rating
agencies are what we would call lagging rather than leading indicators.
By the time they have opined, the market itself has probably to
a large extent already moved and discounted that information in
Taking this point of view, a downgrade in the UK's
credit rating would not necessarily result in higher yields on
78. A credit rating downgrade may have other economic
effects. In response to questions about the value of sterling,
Professor Dow highlighted the importance of future capital flows
and their dependence upon the gilt market:
Professor Dow: In
a way, what is most likely to drive the future of the sterling,
I would suggest, is capital flows and a lot will depend on the
gilts market and global developments in government bonds and the
perception of foreign investors of the British bond market. If
that was positive and there are higher capital inflows the exchange
rate should rise.
Mr Breed: So
the maintenance of AAA is pretty important then?
Professor Dow: I
would say so, yes.
79. Karen Ward, HSBC's UK Economist, also highlighted
that although credit rating agencies had plainly stated their
current position on the UK, they had also been clear about what
the 'goalposts' were for the future. She considered that although
deficits around the world had increased, the UK was a concern
"because it [the deficit] is much larger than elsewhere and
it is the structural element that is definitely of concern [...]
if there was a lot more
transparency about how that structural deficit had arisen, and
how it was likely to be eliminated going forward, I think that
would certainly help the rating agencies as well as general market
participants assess the UK's outlook".
80. The Committee understands the views given
by Mr Ramsden that credit ratings are often a lagging and not
a leading indicator, and that in many cases a downgrade will already
be priced into the market prior to a rating reduction.
81. In the Budget 2009, the Government estimated
central 'Government Gross Debt Interest' to be £30.5 billion
in 2008-09, £27.2 billion in 2009-10 and £42.9 billion
in 2010-11. These
were revised upwards in the Pre-Budget Report 2009 to £30.5
billion, £30.7 billion and £44.4 billion respectively.
82. During the evidence session on the 14 December,
Karen Ward estimated that future debt payments would rise to £51
billion in 2011-12, £56 billion in 2012-13 and £61 billion
in 2013-14. In
a supplementary note to the Committee, Robert Chote from the Institute
for Fiscal Studies estimated that the future debt costs would
be £55 billion, £60 billion and £66 billion respectively
over the same time period.
83. The Committee is aware that such estimates are
based on assumptions and that any forecasts have a degree of uncertainty.
The Pre-Budget Report stresses this uncertainty and notes that
RPI, interest rate movements and market expectations can all have
an effect on future interest costs.
Additionally, the Committee notes that a series of uncovered auctions,
as discussed earlier, would have a significant effect on the cost
of financing for the Government.
84. In the evidence session on 15 December, Mr Ramsden
stated that the Government did not conventionally publish debt
interest costs beyond the period of the Spending Review, but that
they would be provided for the next session with the Chancellor:
Mr Fallon: But I want to
talk about debt interest. Are you not able to provide the Committee
with these figures?
Mr Ramsden: They are not in the
Mr Fallon: That is why I
am asking for them.
Mr Ramsden: They can be derived
from the PBR document.
Mr Fallon: Could you derive
them for us, please?
Mr Ramsden: I can certainly provide
you with a note.
Mr Fallon: So we will have
them before we see the Chancellor tomorrow, thank you.
The Committee did not receive a note until after
1pm the following day, when the hearing with the Chancellor was
scheduled for 2.30pm.
85. The note did not contain any estimations of future
debt interest costs. Instead it stated:
Higher borrowing and higher debt means that debt
interest payments are projected to rise. Projections for debt
interest are particularly sensitive to changes in market interest
rates, inflation and the level of borrowing.
The debt interest payments projection assumes
market expectations of rates along the yield curve as they stood
in the run up to the PBR. This is in line with the NAO's audit
of interest rate assumptions for Budget 2009 (HC 408).
When challenged about why more information was not
provided, the Chancellor stated that "the reason for that
is because inevitably even at the best times there is a degree
of uncertainty, now there is a great deal of uncertainty."
He did confirm, however, that "within the Treasury we have
86. The Committee notes that debt interest forecasts
depend on a number of assumptions, and are necessarily an estimate.
However, the Bank of England publishes forecasts showing the possible
range of rates; we recommend that the Treasury consider whether
publishing information about debt interest on a similar basis
would be useful.
Losses from financial interventions
87. In Budget 2009, the Government stated that the
provisional estimate of the losses on financial stability measures
may lie within a potential range of £20 billion to £50
billion. The estimate was disclosed as a range due to the inherent
uncertainties surrounding the potential outcomes of the interventions.
In reaching an estimate of the scale of potential net losses,
the Government's judgment was informed by potential income from
fees and investments, data from stress-testing and due diligence
exercises undertaken by the Treasury, the FSA and the Bank of
England. It was stated at the time that overall outcomes would
depend on prospects for the economy, over which there was significant
88. At the time of the Pre-Budget Report 2009 in
December, the Government revised this estimate down to £10
billion. The main drivers behind this reduction are the changes
to the Asset Protection Scheme policy agreement: Lloyds Banking
Group are no longer participating in the APS (meaning that the
Government is not liable for any of their losses as they would
have been under the scheme). The Government is only liable for
any net losses to RBS above £60 billion; the central expectation,
based on due diligence, suggests that such a magnitude of losses
will not arise.
As Mr Ramsden explained:
The central expectation for payouts under the
APS is zero, so that is now our central expectation. Because we
have certainty about the nature of the policy, we have not made
any allowance in our fiscal projections for the insurance part
of the APS, and the fiscal risk has changed
the fiscal risk
has got much smaller in size and is changed in nature, so the
[potential loss] has come down from £50 billion to £10
billion and now I do not think we are exposed on the Asset Protection
Scheme and our exposure is more, to the extent that there is one,
in terms of our equity holdings.
The Chancellor added that "the RBS team and
ourselves have been able to work through far more of their exposure
with a better understanding of what needed to be insured in the
APS, we have therefore been able to make a different assessment
as to what we think the likely or the possible loss to the taxpayer
The Government now considers that any risks of loss relate to
the value of its shareholdings.
89. The potential losses from the financial interventions
have changed in both size and nature since the Budget 2009. This
has been due to the revision of the APS and the fact that Lloyds
Banking Group are no longer participants in the scheme. However
the Committee notes that the reduction in the possible loss is
highly dependent upon the claim that RBS will not need to use
the APS. We understand the need for certain market sensitive information
to remain confidential, but given the large financial implications
if RBS did have to use the APS, we recommend the Government reports
on its assessment of the potential losses from the APS in both
Pre-Budget and Budget reports in future.
PFI contracts under IFRS and
90. The Committee received evidence from Professor
David Heald, of the University of Aberdeen, regarding the treatment
of PFI contracts. He explained that under the UK Generally Accepted
Accounting Practice (UK GAAP) used from 2001-02 to 2008-09, PFI
projects were kept off the balance sheet of public sector clients.
Under the newly introduced International Financial Reporting Standards,
the expectation is that almost all PFI projects would move onto
the balance sheet. This would increase the liabilities of the
91. However, in June 2009, the Treasury reissued
its 2009-10 Consolidated Budgeting Guidance, announcing that the
budgeting treatment of PFI in national accounts would be on a
national accounts basis, as set out by Eurostat, not on
an IFRS basis. Thus most PFI deals would not be included when
calculating such figures as the Public Sector Net Debt.
92. Professor Heald was concerned that given the
dramatic planned reduction in public sector net investment, it
is possible that there would be a new wave of PFI projects driven
by accounting treatment rather than by value for money for the
tax payer. However
we note that departmental accounts will be compiled on an IFRS
level, so some incentive to use PFI for balance sheet reasons
has been removed.
93. Mr Richardson stated a reason for not calculating
Public Sector Net Debt on an IFRS basis as "if we are looking
at, for example, measures relative to gross domestic product,
as we often do within the PBR, it is essential that those measures
are on the same basis as GDP is calculated, which is a national
94. The Committee raised this issue with the Chancellor,
proposing that it would be "extremely helpful in future documents
if there was a clear reconciliation"
between Public Sector Net Debt under an IFRS basis and one based
on the National Account basis. When asked whether the Government
would be prepared to do this, Mr Darling replied "I will
certainly consider it."
95. The Committee understands the rationale for
using a different accounting treatment for national accounts than
that used for departmental accounts. However, the accounting rules
chosen mean that while PFI contracts will show on balance sheet
in departmental accounts, prepared under IFRS, they will not appear
in the calculations of net debt in whole of government accounts.
We recommend that future Pre-Budget and Budget Reports include
a reconciliation between Public Sector Net Debt calculated on
a national accounts basis, and the same figure calculated using
the IFRS principles which apply to departmental accounts.
95 Treasury Committee, Eighth Report of Session 2008-9,
Budget 2009, HC 438-I, para 36 Back
HM Treasury, Pre Budget Report 2006, Cm 6984, p 31, para
HM Treasury, Pre-Budget Report Securing the recovery: growth
and opportunity, Cm 7747, December 2009, p 25 para 2.51 Back
HM Treasury, Pre-Budget Report Securing the recovery: growth
and opportunity, Cm 7747, December 2009, p 18 para 2.21 Back
Ibid., p 19 para 2.23 Back
Q 257 Back
Q 119 Back
Oral Evidence taken by the Treasury Committee on 24 November 2009,
HC (2009-10) 34, Q 15 Back
Q 30 Back
Q 30 Back
Q 72 [Ms Ward] Back
Q3; Oral Evidence taken by the Treasury Committee on 24 November
2009, HC (2009-10) 34, Q 15 Back
Q 3 Back
Q 257 Back
Q 120 Back
Q 4 [Mr Chote] Back
Oral Evidence taken by the Treasury Committee on 24 November 2009,
HC (2009-10) 34, Q 14 Back
Q 118 Back
"Public finances and the cycle", HM Treasury,
Treasury Economic Working Paper No. 5, November 2008, p 3 Back
Qq 2, 4 Back
Q 2 [Mr Weale] Back
Qq 2, 56 [Professor Dow] Back
The ready reckoner for calculating cyclically adjusted net borrowing
(CANB)is: CANB = Net borrowing +0.5(output gap in current fiscal
year) + 0.2 (output gap in previous fiscal year). Back
Q 28 [Mr Weale] Back
Q 40 [Mr Weale] Back
Qq 120, 242, 264 Back
Q 295 Back
Q 266 Back
Q 153 Back
HM Treasury, Pre-Budget Report Securing the recovery: growth
and opportunity, Cm 7747, December 2009, p 97 Back
HM Treasury, Pre-Budget Report Securing the recovery: growth
and opportunity, Cm 7747, December 2009, p 97 Back
Q 59 Back
Q2 [Mr Chote] Back
The framework for public expenditure
is divided between:
Departmental Expenditure Limit (DEL)
spending, which is planned and controlled on a three year basis
in Spending Reviews; and
Annually Managed Expenditure (AME),
which is expenditure which cannot reasonably be subject to firm,
multi-year limits in the same way as DEL. AME includes social
security benefits, local authority self-financed expenditure,
debt interest, and payments to EU institutions.
Source: HM Treasury, Public expenditure
planning and control in the UK - a brief introduction, http://www.hm-treasury.gov.uk/psr_plancontrol.htm Back
Q 49 Back
Q 50 [Figures as in transcript] Back
Qq 168, 174 Back
Q 169 Back
HM Treasury website, Spending Review home page Back
Pre-Budget Report statement to the House of Commons, delivered
by the Chancellor of the Exchequer9 December 2009 Back
Qq 166-167 Back
Q 269 Back
Q 109 Back
Q 52 Back
Liaison Committee, Second Report of Session 2009-10,Financial
Scrutiny: Parliamentary Control over Government Budgets, HC
804, paras 76-94 Back
House of Commons Reform Committee First Report of Session 2008-09,
Rebuilding the House, HC (2008-09) 1117,para 137 Back
Second Report of Session 2008-09, Pre-Budget Report 2008, HC
27, Para 161 Back
Pre-Budget Report 2009, December 2009, p204 Back
HM Treasury, Budget 2009 HC 407, p245; Pre-Budget Report
2009, December 2009, p204 Back
Pre-Budget Report 2009, December 2009, p 168 & p202 Back
Q 270 Back
Asset Purchase Facility page, Bank of England website,
Q 270 [Mr Ramsden] Back
Treasury Select Committee, Eighth Report of Session 2008-09, Budget
2009, HC 438-I, para 68 Back
Treasury Select Committee, Fifth Special Report of Session 2008-09,
Budget 2009: Government response to the Eighth Report of the
Committee , HC 890, para 11 Back
"Top AAA Ratings Tested by Debt Burdens, Moody's Says",Bloomberg,
8 December 2009, bloomber.com Back
"Ratings agency downgrades outlook for UK economy",
Guardian Online, 21 May 2009, guardian.co.uk Back
Q 236 Back
Q 274 Back
Q 237 Back
Oral evidence taken before the Treasury `Sub-Committee on 21 October
2009, HC (2008-09) 1046-I, Q 8 Back
Q 12-13 Back
Q 55 Back
HM Treasury, Budget 2009 HC 407, p238 Back
Pre-Budget Report 2009, December 2009, p190 Back
Qq 42-45 Back
Ev 77 Back
Pre-Budget Report 2009, December 2009, p193 Back
Qq 163-166 Back
Ev [Memo to the treasury Select Committee [from Mr Ramsden]] Back
Q 297 Back
Q 299 Back
HM Treasury, Budget 2009 HC 407, p26 Back
Pre-Budget Report 2009, December 2009, p199 Back
Q 151 Back
Q 258 Back
Ev 78 Back
Ev 78 Back
Q 186 Back
Q 318 Back
Q 318 Back