Select Committee on European Union Minutes of Evidence

Examination of Witnesses (Questions 248-259)



Assistant Director Analysis and Research, Inland Revenue, examined.


  248. Thank you for being so patient. The fact that we have kept you waiting is not meant as a discourtesy, but because of our interest in the previous evidence. I do apologise for that.
  (Mr Grice) We listened with interest too.

  249. It might be a good idea if you introduced your colleagues.
  (Mr Grice) I am Joe Grice, Chief Economist and Director of Public Services at the Treasury. On my left is Richard Price who is the Head of the Enterprise Team at the Treasury. On my right is Trevor Evans, head of the policy group in the Inland Revenue and Paul Lanser, also from the Inland Revenue, who is the Assistant Director responsible for Analysis and Research.

  Chairman: Thank you very much for coming along. We are very grateful to you and to all your colleagues. We have a lot to get through and we shall try to be brief in our questions.

Lord Fearn

  250. Which are the principal Treasury policies, programmes or actions, including taxation measures most directly intended to affect enterprise, entrepreneurship and productivity growth? What is the annual cost of each of these? Are the objectives in each case clearly set out? What process of evaluation is conducted in each case?
  (Mr Price) It might help if I set out some of the framework which the Treasury uses very, very briefly as there are clearly several actions that the Treasury has at its disposal, even though we are not in the lead on all the policy matters. We published with the Small Business Service, at the time of the pre-budget report in November, this document—Enterprise Britain: a modern approach to meeting the enterprise challenge. That was an attempt to outline the government's approach to enterprise: why it matters, what the framework is for action and then fitting within that the range and focus of individual measures. Your questions recognise that enterprise contributes either directly or indirectly to the five key drivers of productivity and it is really in that sense that we focus on enterprise. The five drivers really form a framework for the micro economic policy interventions that the government operates on in order to try to close an historic productivity gap with other major industrial economies; those five drivers being innovation, competition, investment, skills and enterprise itself. It is fair to say that within this framework we are trying to give more weight to the body of evidence and economic principles than perhaps ever before. In front of me is a pile of our productivity papers which try to set out the evidence base and we could talk some more about that later if that would help. Our role with other departments is to try to make sure that the right environment exists for enterprise to flourish and where necessary to make sure that policies are in place to tackle specific market failures or blockages, barriers which inhibit successful enterprise. In practice that means that across government we have a focus on a number of key market failures, the main ones being finance for small business, external advice for businesses, improving skills and training, raising levels of innovation; in addition to those, focusing on making sure we have a strong competition framework so that small businesses and new firms can enter markets they might previously have been excluded from and also, importantly, making sure that we keep low, efficient and proportionate the system of regulation that government imposes on businesses, including in that tax compliance costs. You have had separate evidence on a number of these areas from DTI and DFES, so I shall turn to my Revenue colleagues to explain how measures operating through the tax system relate to this.
  (Mr Evans) The measures I shall describe are mainly the targeted ones. There are several more general measures, the lower rates of corporation tax, the capital gains tax regime and we might have the opportunity to discuss those in answer to one of your other questions. For the moment, if I may, the principal targeted tax measures are: the enterprise investment scheme, often known by its initials as the EIS; the venture capital trusts, the VCTs; the corporate venturing scheme. Broadly speaking, these three measures all aim to provide tax incentives to investment in small and growing companies. They address market failures which make it difficult for small companies to get the finance they need to grow. Allied with these three is the community investment tax relief which is a new measure designed to encourage private investment in small enterprises in deprived communities. EMI, the enterprise management incentive scheme, assists small high risk firms to offer tax advantageous share options to employees with the key skills that those small firms need to grow. Development tax credits for small- and medium-sized enterprises and indeed more recently for larger companies have been introduced over the last three years and these aim to promote innovation and competitiveness by encouraging small firms to invest more in research and development. You asked about the cost of these measures. To give you the flavour of these for the year 2002-03, the estimated costs are, for EIS, the enterprise investment scheme, some £240 million, for VCTs £35 million, for enterprise management incentives £85 million, for research and development a total for that year of £600 million of which around £200 million relates to small- and medium-sized enterprises and the balance, £400 million, to larger firms.

  251. You were mentioning figures there for EIS and VCT schemes. Have they produced the effect intended? How can you tell? How do you evaluate?
  (Mr Evans) Evaluation schemes have been or are in the course of being set up for each of these. It may be helpful if I briefly outline where we are on the evaluation for each of those schemes. A research study of EIS and VCT was carried out in 2002 by Public and Corporate Economic Consultants (PACEC). This comprised surveys of investors and participant companies, economic analysis and literature review. The study showed the schemes to be broadly meeting their objectives of expanding access to finance for these smaller higher risk businesses. Treasury and the Small Business Service are presently carrying out a review of small business finance. As you will have probably seen, a consultative document was published at the time of the recent budget. Other evaluation schemes are in the process of being set up. The Treasury, Inland Revenue and the Small Business Service will begin work shortly on designing a way of measuring the success of community investment tax relief. We are committed to a full evaluation of enterprise management incentives in 2005. This commitment was made when EMI was introduced. It was a commitment made in the regulatory impact assessment which was issued at the time that scheme was introduced in 2000. We are also in the preparatory stages of designing an evaluation process for research and development tax credits. You will appreciate that some of these reliefs have been introduced very recently, therefore it will take time for the effects to become apparent and for a proper evaluation to be carried out.

  252. Let us talk about corporation tax and capital gains tax. Has there been any impact at all on the level of entrepreneurial activity? I am talking about the changes in corporation tax.
  (Mr Evans) Perhaps I could say something about the evaluation. We have not carried out an evaluation of the impact on UK entrepreneurial activity of the changes in the rate of corporation tax.

  253. Will you?
  (Mr Evans) No, in the sense that we make an assessment of the overall effect of tax changes on revenues and the numbers affected, but we have not attempted to assess how changes impact on entrepreneurial behaviour. This is a general change. The corporation tax rates are general changes which apply across the board and we focus our evaluations on the more targeted measures which are the ones I outlined for you at the beginning.
  (Mr Lanser) Mr Evans mentioned the evaluation of the policies which have been introduced very recently like EMI. Although we will not be doing a very significant amount of work until later on when the policies are fully up and running, 2005 in the case of EMI, we are already planning the evaluation and doing preliminary work which will help us to undertake a full scale evaluation when the data becomes available and when the schemes are mature enough that it is actually worth doing some proper evaluation work on them.

  254. You have none at the moment. Is there a special unit?
  (Mr Lanser) At the moment we are doing some preliminary work specifically on EMI. We are doing some qualitative research to understand what sort of questions we will be able to ask when we eventually come to do full-scale survey work of the sort we did with the EIS and VCT study. I did not want to leave you with the impression that we were leaving it all until 2005-06. A lot of work has to be done before we undertake a full-scale evaluation. On the corporation tax, which you also asked about, these are general tax measures which are not very susceptible to evaluation in the same way as much more targeted measures such as EIS, VCT , EMI, research and development tax credits are. What we do with general measures such as this is monitor them very closely, we look at the number of companies which are in the group affected by the zero per cent rate, for example, how much tax is involved or how much tax is not collected as a result of this particular policy change and the number of companies involved. We monitor them quite closely, but we do not evaluate them in the same way as we would evaluate a much more targeted scheme. On capital gains tax, we have a commitment to evaluate the introduction of taper relief in 1998 and the changes which were made to taper relief in 2000. We are not evaluating capital gains tax in its totality, we are evaluating the specifics of the introduction of taper relief, which was the measure introduced to encourage enterprise and to promote entrepreneurial activity and hopefully more investment and greater productivity growth. In that case, where we have a specific measure and a specific objective that we can have a look at, we do evaluate that measure.

Lord Shutt of Greetland

  255. In a former life as a humble provincial chartered accountant I seem to remember filling in forms years ago claiming investment grants for client after client and if a capital acquisition was made you could claim an investment grant and people could see real cash. I am trying to think which of my old clients would have been able to benefit from all these measures which we are hearing about now. I wonder whether any of them would. I do not feel as though I have a handle on this and it would be helpful to know. When an initiative is introduced, I suppose some sort of assessment must be made as to what the cost of that initiative is going to be. Is it realised or are you well below what you thought when such an initiative was introduced? We are asking, for example, what the costs of these initiatives are, but is that cost what was envisaged when the Chancellor announced that or is it substantially less than that? Do you have a way of assessing that?
  (Mr Evans) The capital gains changes are a good example of this. To answer your implied question, a lot of your former entrepreneurial clients would be very pleased by the capital gains tax changes.

  256. Yes, I accept that.
  (Mr Evans) Yes indeed, an assessment is made of the cost of introducing the business assets taper and as you will remember it has been made progressively more generous from the original ten years down to four years and now an effective ten per cent rate after just two years. There are all kinds of changes in capital gains tax and the cost of a capital gains tax measure particularly does depend upon asset values and asset values do change after the measure has been introduced. In that kind of area in particular, it is very difficult to separate out what has been as a result of the capital markets changing, the cost of shares changing, what is from the introduction of the taper relief itself.

  257. I accept that all these things are related, but capital gains in itself is not an entrepreneurial thing. It is at the end of entrepreneurship, is it not? Much of what you were talking about were schemes where, in order to set up shop, as it were, incentives have been raised or there are incentives for businesses to go further forward. That is what I was actually more interested in, whether you are seeing that as being realised in terms of the various schemes you mentioned or whether there is a disappointment in that and whether it is getting through and the intended participants are joining in and jumping for these things.
  (Mr Lanser) Other schemes are performing as intended, as we now know. We know more about things like EIS and VCT because we have done more research on those and we have more external information to compare it against. Broadly speaking that did operate as we intended, although it was not perfect and there are lessons to be learned, some of which are wrapped up in the consultation document on small business finance. On R&D tax credits, you must remember that we introduced a small company relief in 2000 and a large one in 2002. We have no information on the 2002 introduction yet, because we just do not have the returns in. We have some information on the small company relief and that is pretty much in line with our expectations. You must remember that what we also did with research and development tax credits was put significant effort into publicising them at a number of road shows, consultations. We made quite a big publicity push with those and that has helped. On the other ones, EMI, pretty much in line with what we expected, however you must realise that part of the cost of EMI is when people actually exercise their share options. Although someone could have been granted a share option, if they have not exercised it yet, we will not yet know what the tax loss was, what the cost of the scheme has been. It is quite difficult to say that.


  258. On the evaluation side I am not entirely sure what your answer was to Lord Fearn on whether there is an evaluation unit. By and large the responses you have given are all about costs and on the evaluation side I am at least as interested in outputs, what the effects of these things are. I would not really expect Inland Revenue to be stuffed full of people who are experts in assessing the effect on enterprise, entrepreneurs' growth and so on. Maybe you are. Maybe you are going to surprise me. Is there an evaluation unit in the Treasury? Who is looking at these things and saying these things are costing money, this is what the government wants to achieve? The Chancellor is in the same party as I am, so I have some sympathy with what he is trying to do here. The Chancellor has certainly adopted some very definite economic policies. He is not just doing things as a tax and spend Chancellor, he is doing things to achieve outcomes. This is the starting point, it seems to me. I assume that the Treasury is as concerned with the output as it is with the old concern with cost and loss of revenue. Is there an evaluation unit? Who is looking at these things? Who is looking at outcomes, outputs, is really what we want to know.
  (Mr Grice) There are two elements to this question. One is generally how do we approach these issues of evaluation and establishing clear targets and evaluation and so on and we can certainly try to talk you through on what we do on that. If you are interested more specifically in the evaluation of these issues relating to enterprise, that is something Mr Price can help with.

  259. Talk us through the general approach first.
  (Mr Grice) Broadly, there was a big change to the way we deal with public spending in particular, five years ago now, at the time of the 1998 comprehensive spending review. Our approach did change very substantially and I have been around the Treasury for a long time. We made a quantum move from the primary concern with inputs which we had had before, whether that was cash or numbers of people or whatever. We moved away from inputs quite decisively towards outcomes and outputs, just as you implied. This is pretty crucial for public spending as a whole and public finance as a whole. The chosen means by which we tried to ensure that we do have clear objectives on which evaluations can be pinned are the public service agreements, the so-called PSAs. What they do is to set out for all the key areas of activity, all the key areas of spending, what the objectives and targets are. They do so very specifically. They do focus on outcomes, whether that is better health, or better public services, or educational attainment, or, in the context of entrepreneurship and enterprise, the extent to which the money is actually intended to add value in promoting entrepreneurship or enterprise, productivity growth for that matter. The important pointers which are an integral part of the spending reviews themselves, are really a two-way compact between the Treasury and to the extent that they are interested in the priority programme, the Prime Minister has to agree to these as well, on the other side the departments which are actually using those resources. It is that kind of two-way understanding which gives a great deal of clarity and a great deal of transparency that we did not have to nearly the same degree before. Each of the PSAs has an aim, which is the high level statement of what the money is intended to achieve. It then has a set of objectives which in more specific terms is what the money is intended to achieve and going with those in each case is a set of performance targets which are intended to be as smart, in the jargon, as possible, measurable and verifiable. One of those targets is always a value for money target and each department within each of the PSAs has to have a target for improving the efficiency and the effectiveness of the resources which are being spent. Also, very importantly, in each case there is a statement of who is responsible and who is accountable for achieving those objectives, those targets, so someone actually has accountability for it. In each case we try very hard to build in a very heavy evidence-based approach to the PSAs. It is one thing to have a set of targets; at least as important is how you are going to achieve them and the means by which you are going to achieve them. We have done a lot of work over the last few years to make a reality of evidence-based policy making. The PSAs themselves are published and available on the Treasury website, but associated with each one, underpinning the PSAs, available only on the Treasury website, not published in hard form so far as I know, are the so-called service delivery agreements and the technical notes which go with them, which explain in considerable detail how the department concerned is setting about achieving those objectives. There is also another Treasury website called the Evidence for policy choice website, which sets out the evidence base corresponding to each of these PSA targets and that is a very important and increasingly useful piece of information which is available and which sets out what the evidence base is. It is open to challenge in a sense and that is also important. One other thing I might just mention in this context, because it is relative to some of the other issues you may wish to raise later, is that we have the evidence-based policy fund which is the fund which finances research to repair gaps in the evidence base when they are apparent and need to be filled. All of this is publicly available. Because this is all part and parcel of the spending review, as a matter of course, every two years at the minimum, these PSAs and the service agreements which go with them will be examined in great detail and updated and progress noted, lessons learned and rebuilt into the design and the re-design of policy to underpin these agreements and the delivery of what we want a policy to achieve. The only other thing I should perhaps say in this context, and we feel the PSAs give a very firm basis for a systematic programme of evaluation, if we have clear objectives and clear targets then that gives at least the first stage in this process, is that the Treasury also produces a document called the GREEN BOOK. It has been around for many years but it was fairly comprehensively revised and republished in April of this year. That followed quite a comprehensive consultation exercise which we carried out last year. What it does is to give a guide to what we believe is best practice in the field of evaluation, also appraisal—appraisal and evaluation; appraisal of policies when they are announced and their subsequent evaluation. We do not feel that any document of this size can cover every circumstance, so it is intended to be only the general principles which apply. Nevertheless, we would want those principles to be applied wherever possible and that is reflected in the fact that this GREEN BOOK has the status of so-called binding guidance. All accounting officers are required to be aware of it and while there may be good reasons in specific circumstances why the guidance should not be followed literally, nevertheless in those circumstances, there should be a good reason for a departure which an accounting officer would be able to explain if called upon to do so. That is the basic approach we have. We think we now have a framework which does mean we have a great deal of clarity about objectives and about means of delivery. We tried also to facilitate making accessible best practice in the field of appraisal and evaluation which means that departments would be able to go away and set up their evaluations on the basis of that system.

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