Written evidence submitted by the National
Institute of Economic and Social Research (NIESR)[25]
CHANGES TO
EXPENDITURE PLANS
1. The October 2010 Comprehensive Spending Review
(CSR) sets out plans for the public sector expenditure over the
next five years. In the Emergency Budget of June 2010 a
plan to cut Resource Departmental Expenditure Limits (RDEL) significantly
over this period was presented. This plan always looked difficult
to implement, and it has been moderated in the recently announced
CSR.[26]
Even more savings are to be made from the welfare budget than
was suggested in June's Emergency Budget to offset this
and ensure the Chancellor meets the requirements of his Fiscal
Mandate.
2. Given the absence of any published RDEL plans
by the previous government for the period beyond 2010-11 the Pre-Budget
2010 projections produced by the Office for Budget Responsibility
(OBR) should only be viewed as the hypothesised plans of the previous
government. These projections suggested a rather sharp reduction
in inflation-adjusted RDEL over the period to 2014-15.[27]
In the June 2010 Emergency Budget of June 2010, the coalition
government presented plans for an average reduction in inflation-adjusted
RDEL of 2.7% per annum over the period 2011-12 to 2014-15.
3. Figure 1 shows the adjustments to the spending
envelope for RDEL for the period beyond current CSR (which ends
this fiscal year). As the figure clearly shows the plans for cuts
to RDEL have been scaled back somewhat in the CSR. In cash terms
the Emergency Budget showed RDEL being cut by £15.5
billion in 2014-15 in comparison to the Pre-Budget forecast of
the OBR. The CSR has reversed some of these cuts with the difference
from the Pre-Budget forecast of the OBR now only £4.5 billion.
It is of course not possible to fully detail which departments
scaled back their cuts the most, but the reductions are not balanced
across departments. This may reflect a change in relative priorities
by the new government, with an increased emphasis of health, education
and defence as compared to its predecessor. However, during the
course of the election the previous government did indicate a
preference for "ring-fencing" the health and schools
budgets.
4. The decision to ring-fence some areas of
spending can either be seen as the result of political expediency
in the run up to an election or of a clear change in priorities
on the part of society.[28]
Prior to the election we argued[29]
that if existing spending plans were properly balanced then the
case for ring-fencing did not exist. Spending on each part of
the government should perhaps be seen as an optimisation exercise
where marginal social benefits, whatever they may be, are the
same across spending departments. This means that a cut would
have the same costs wherever it was applied. If the crisis has
left us worse off compared to where we thought we would be (a
permanent loss of output) then spending plans need to be re-evaluated.
On top of this we need to ensure the fiscal costs of the crisis
are paid off through a fiscal consolidation programme. It is perhaps
unwise to start discussion with what should be ring-fenced. Ring-fencing
some areas has meant that cuts have had to be deeper in others,
and the incremental costs of those cuts in terms of loss of benefit
to society could be large.
5. To keep budget spending on course something
else has had to give and the Chancellor has focused yet again
on the welfare budget. A further £7 billion is to be cut
from this budget by 2014-15. This is on top of the £11 billion
of welfare cuts in 2014-15 announced June's Budget. In
the space of 5 months the planned spending on the welfare budget
has been reduced by 1% of GDP.[30]
In addition the CSR included announcements on other components
of Annually Managed Expenditure in order to keep the consolidation
programme on track in comparison to the projections from the Emergency
Budget.
Figure 1
RESOURCE DEPARTMENTAL EXPENDITURE LIMITS
PROJECTIONS
Source: OBR and HMT.
Note: All projections are on a Clear
Line of Sight basis.
6. By 2014-15 current departmental spending
is expected to be £11 billion higher than proposed in June's
Emergency Budget (figure 1). Investment plans have been raised
by £2.2 billion by 2014-15. This returns the capital expenditure
plans to those of the previous government by this year. But capital
spending still falls over the next four years, from £51.6
billion in 2010-11 to £40.2 billion in 2014-15; a real terms
cut of 29%. It is surprising that the Treasury has broken with
previous CSR convention and not published their plans for
net investment. If the upward revision to investment mentioned
above is due to a re-evaluation of future depreciation then the
current capital expenditure plans in comparison to the previous
government's plan would imply a reduction in the capital stock,
reducing growth over the medium term. Unless further details are
revealed by this enquiry we will probably have to wait for the
next forecast round of the OBR.
7. It is not clear that any of the plans proposed
will either raise or lower term growth rate of output in the economy
in the longer term. Output depends on the capital stock, the size
of the labour force and their skills as well as the stock of knowledge.
The capital stock is likely to be unaffected. The size of the
labour force may be affected by changes in migration, as may the
stock of skills. Migration is not addressed in a CSR. The skills
of the workforce and the stock of knowledge depend heavily on
university related research as well as the stock of graduates
and skills produced in schools. It is not yet clear how cuts in
university spending will be offset by increases in fees. If there
is a cut in overall expenditure on universities then growth prospects
will be weaker. Some measures in the Emergency Budget should
enhance private sector investment, and it is possible that a lower
level of borrowing and of taxation will increase private sector
accumulation of assets. However, given the real rate of return
is determined in the world market the effects are more likely
to be reflected in a lower current account deficit and higher
foreign sourced incomes rather than in a higher level of UK capital
stock and output.
8. The fiscal multipliers derived from our global
econometric model NiGEM suggest that a reduction in government
spending on goods and services (broadly similar to RDELs) has
a larger negative impact on overall GDP growth than a reduction
in the size of the welfare budget (see Barrell and Kirby, 2010b).
Overall then, this re-distribution of spending may well boost
GDP growth in 2013 and 2014 by 0.1 to 0.2 percentage points. Given
that our latest forecast is for GDP growth to have accelerated
to 2½% per annum in 2013 and 2014 this positive contribution
to economic growth comes when the economy is already well on the
way to recovery.[31]
The £2.2 billion spending boost compared to the Budget plans
of June for next year will do little to support the recovery when
it is most vulnerable.
9. It is possible that the government will not
be able to fully implement the plans for RDEL over the next CSR
period.[32]
In Barrell and Kirby (2010a) we simulated a scenario where the
speed and scale of the reduction of government spending on goods
and services as moderated. We assumed that by 2016 real government
consumption was to be reduced to 20% of GDP rather than the 18%
planned in the Emergency Budget, with direct taxes paid
by households automatically rising to by 2% of GDP to maintain
the deficit on our baseline projection. GDP growth would be a
¼ of a percentage point higher in both 2011 and 2012, and
the unemployment rate would be reduced by around ¼ percentage
point (equivalent to around 80,000 of the labour force)[33].
8. The Chancellor's target is for the government's
current budget to be in balance, after adjusting for the economic
cycle, by 2015-16. Without further increases in taxes this target
is unlikely to be met. If the Chancellor is to hit his target
then further spending adjustments or tax increases will be required.
The current CSR may not be the end of the process of adjustment
of government spending and taxes.
November 2010
REFERENCESBarrell,
R and Kirby, S (2010a) "Fiscal policy and government spending",
National Institute Economic Review, No 214, pp. F61-6.
Barrell, R and Kirby, S (2010b) "UK fiscal prospects",
National Institute Economic Review, No 213, pp F66-70.
Barrell, R and Kirby, S (2010c) "Medium-term
prospects for the public finances", National Institute
Economic Review, No 212, pp F60-7.
25 Professor Barrell is Acting Director of the National
Institute of Economic and Social Research. Simon Kirby is the
lead UK forecaster at NIESR. Back
26
Barrell and Kirby (2010a) noted that the spending envelope for
DELs would be difficult to implement. Back
27
On average, over the period 2011-12 to 2014-15 the OBR projections
shows inflation adjusted RDEL falling by 1.8% per annum. Back
28
Both the Labour and Conservative parties announced they would
introduce some ring-fencing of departmental spending during the
course of the election campaign. Back
29
See Barrell and Kirby (2010c) published in April 2010. Back
30
The cuts have been focused on working age benefit recipients.
More than half the welfare budget is received by people of pension
age. Back
31
Our latest forecast was completed prior to the CSR and so included
only the fiscal plans announced in the Emergency Budget and the
discretionary policies that had been retained from previous Budget
and Pre-Budget Reports. Back
32
Indeed CSR 2010 revised those plans as already discussed. Back
33
The reader should consult Barrell and Kirby (2010a) for more
details of the simulation exercise and its results. Back
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