The Barnett Formula - Select Committee on the Barnett Formula Contents


APPENDIX 1

THE STRENGTHS AND WEAKNESSES OF THE BARNETT FORMULA

    (1) It is in the context of the principles set out in paragraph 11 of our evidence that we will comment on the Barnett formula.

    (2) The Barnett formula suffers from a number of significant weaknesses as a mechanism for allocating resources to Wales and should be replaced. The origins of the Barnett formula are well understood: the formula was intended as a short term expedient introduced in the late 1970s as a means of allocating certain monies related to expenditure on functions devolved to Scotland, Northern Ireland and Wales. Lord Barnett himself has on numerous occasions in the House of Lords drawn attention to the fact that the formula was intended to be a short term, stop-gap measure. In practice it has remained in place with little alteration for over 30 years.

WEAKNESSES OF THE BARNETT FORMULA.

    (3) The Barnett formula has a number of weaknesses as well as one or two possible advantages. The first three weaknesses noted in this appendix (paragraphs 4 to 6) arise from faulty implementation whilst the remainder (paragraphs 7 to 14) are fundamental criticisms of the formula.

Arbitrary setting of base line expenditures in 1978

    (4) Base line expenditures to which consequential increases were cumulatively added were themselves based on the expenditure patterns in existence prior to 1978: indeed in the case of Scotland allocations were partly related to the Goschen formula established in the late nineteenth century. Furthermore although the Treasury undertook a needs assessment exercise in the late 1970s the outcome was not used to alter the base line allocations used in the Barnett formula. This is in spite of the fact that the Treasury's assessment indicating that Wales was receiving less than its needs based share of funds and Scotland was receiving more.[3] The conclusion of the Treasury study was that identifiable expenditure on devolved services in Wales was 106 per cent of the corresponding level for England whilst the needs estimate was 109 per cent. This shortfall of 2.8 per cent was effectively locked into Barnett increases and has persisted for the last 30 years. An attempt was made by the Treasury in the early 1980s to resurrect the idea of a needs assessment in order to reduce the allocation of funds to Scotland and Northern Ireland (but not significantly to Wales) but was abandoned.

Inaccurate population ratios used from 1978 to 1997

    (5) The population ratios used in the application of the Barnett formula did not accurately reflect the respective populations of the four countries of the UK and in practice favoured Scotland and disadvantaged Wales. The "consequentials" were allocated to England, Scotland and Wales in the proportion 85: 10: 5 whereas the actual population resident in the three countries would have suggested 85.3: 9.6: 5.1. Thus the initial distribution of funding when the Barnett formula was implemented and the population basis for allocating increases were flawed from the outset. The difference may appear small but the cumulative effect over the years prior to 1997 meant that annual increases for Wales were approximately 2 per cent lower than justified on a relative population basis. Until 1997 the population ratios were not, with one exception in 1992, adjusted to reflect changes in actual populations and this arguably further favoured Scotland, where the population was declining, and penalised Wales where the population was increasing broadly in line with that of England. (Between 1976 and 2008 the population of England grew by 11.0 per cent, Wales by 8.1 per cent and Scotland declined by 0.9 per cent). Population ratios have been adjusted annually since 1997 but the way that Wales lost out in the intervening period of almost 20 years has been locked in to the consequent baseline to which subsequent annual Barnett Formula increases have been added.

Application of the Formula is not subject to independent audit

    (6) The application of the formula is not subject to independent audit despite there appearing to be instances of incorrect and inconsistent application of the formula. Examples of this range from relatively small areas of expenditure to more material ones and examples are set out in Appendix 3.

A mechanistic rather than needs based formula

    (7) A central weakness of the formula is that it is a mechanistic formula based on relative population levels and does not take account of relative need except to the extent that such needs were reflected in the baseline expenditures in existence 30 years ago. (The authors of the Treasury needs assessment in 1979 were careful not to claim that the expenditure levels in existence then were related to need). There is significant evidence that relative needs have changed during the intervening period if measures such as relative GDP per capita or relative expenditure per capita on social protection are used as proxies for relative need. In the case of relative GVA per capita this has, in the case of Wales, declined from 88 per cent of the UK average in the late 1970s to 75 per cent in 2007 but this has had no influence on the Barnett formula determined increases to the block grant.

An arbitrary convergence formula

    (8) Another objection to the formula is that it is a convergence formula: it is not passive. If the formula is applied rigorously, as it has been since 1997-8, then devolved, identifiable expenditure per capita will converge to the same level across the four countries of the UK. Expenditure within the four countries of the UK would not converge to a uniform level because different needs based formulae are used to allocate such intra-country monies. Changes to other identifiable public expenditure programmes and in particular Social Protection are not subject to the Barnett formula and do not therefore suffer such convergence.

    (9) In the absence of needs assessment there is no cogent case for converging per capita public expenditure across the four countries of the UK. In the case of Wales the deterioration over the last 30 years in relative GVA per capita would suggest that identifiable expenditure should have been increased in relative terms.

    (10) As has been noted the Barnett Formula has, with the exception of EU funding of Objective 1, been applied with rigour to Wales since 1998. To test whether or not convergence is happening in the case of Wales, data was analysed from the Treasury's Public Expenditure Statistical Analyses reports (PESA 2008, Table 9.4; PESA 2005 Table 8.4) which set out growth in total identifiable public expenditure per capita by country in real terms between 1999-2000 and 2006-07. Growth for England, Wales and Scotland was 33.03 per cent, 29.96 and 32.86 per cent, respectively. The lower growth in Wales cannot be attributed to expenditure on social protection which represents over 83 per cent of identifiable expenditure on non-devolved services (PESA 2008, Table 9.17) which remained constant in relative terms (~114 per cent of UK average) over the period. If identifiable public expenditure per capita in Wales had grown at the same rate as in England then it would have been £700 million higher in 2006-07 after allowing for the above Barnett EU funding (£128 million in 2006-07 compared with zero in 1999-2000). The impact of convergence on Wales will build up cumulatively if the Barnett Formula continues to be employed in determining changes to the block grant.

Lack of Transparency

    (11) The absence of convergence in practice in the first 18 years of the formula is a perverse example of the lack of transparency in the operation of the formula. Students of the formula have found it extremely difficult to explain why the convergence inherent in the formula had not been noted in practice. This is particularly striking because for most of the period during which the formula has been in operation the changes in public expenditure used to determine changes in the block grant have been nominal changes which should have accelerated convergence. It is assumed that there have been many examples of the so-called by-passing of Barnett in the period 1979 to 1997 although academics and others struggle to find definitive evidence. It may be fair to surmise that the Barnett formula did not receive much government or public attention between 1979 and 1997 although recently released papers from the then Scottish Office show that the Treasury attempted unsuccessfully in the early 1980s to reduce the block grant to Scotland and Northern Ireland but not, significantly, to Wales. It was thus possible for governments of the day to deviate from the formula without much public attention being paid to such practices.

    (12) This lack of convergence was, of course, prior to the establishment of the Scottish Parliament and the National Assembly for Wales in 1999. It is also the case that in 1997 the incoming UK Government stated that it would apply the Barnett formula rigorously and this appears to be the case with a few, well documented exceptions. These include the provision of most of the EU sourced Objective 1 and Convergence funds to Wales being allocated over and above changes to the block grant determined by the Barnett formula. The UK Government also publishes a Statement of Funding Policy to coincide with each spending review and this casts additional light on the operation of the formula. However there appears to be no adequate means for challenging what appear often to be arbitrary decisions regarding comparability factors used in the formula (see Appendix 3).

    (13) It is inevitable that many adjustments will be made to planned and actual expenditure over the life of the Spending Review cycle. These changes will have an impact on the Barnett consequentials but such changes are made by the Treasury and it appears that there are cases where that department is in practice "judge and jury" without reference to the Assembly Government (see paragraph 18 of this appendix for a material example).

A formula driven by the public expenditure priorities of England

    (14) The Treasury remains the driving force and key influencer in all cases of budgets including public expenditure plans. The allocation of funds to the devolved administrations is a consequence of spending decisions agreed between the Treasury and the various departments of state in London. In particular, changes to expenditure on education and health in England represent approximately 70 per cent of the change to the block grant but in the case of Wales these programmes enjoy a high degree of devolution (100 per cent and 99.3 per cent, respectively). Thus spending decisions for England made by the Department of Children, Schools and Families and the Department of Health have a major influence on changes to the block grant to Wales despite the fact that policy-making in these portfolios is wholly devolved. The Assembly Government has minimal influence on policy making and, in particular, budgeting, by these Whitehall departments. Thus changes to the block grant are determined by departments of state which have little or no financial remit in the territories of the devolved parliaments and assemblies. Indeed with the exception of spending on social protection, there is a surprisingly small proportion of expenditure by UK government departments in Wales which have some responsibility for expenditure in Wales on non-devolved, identifiable expenditure. With the exception of social protection, £1.5 billion only out of total identifiable expenditure of £24.2 billion in 2007-08 corresponded to identifiable, non-devolved expenditure. To a large extent a number of UK departments of state are, from a financial viewpoint, departments for England only and yet changes to their budgets have a major impact on changes to the block grant directly impacting Wales and its citizens with little democratic input. Such a "rough and ready" approach may have made sense as a short term expedient but it is not a satisfactory basis for the longer term which in the case of the Barnett Formula has now been in force for 30 years.

A formula that takes no account of the massive structural changes in Wales since 1979

    (15) Since the Barnett formula was introduced there have been massive structural changes in the Welsh economy such as the closure of the coal mining industry which employed 40,000 in 1979 and the run down of the steel industry where employment has declined from 51,800 in 1979 to approximately 10,000 today. Because these industries were concentrated in small areas of Wales they have had a devastating, knock-on social effect. These changes have proportionately been far greater in Wales than in England but the Barnett formula takes no account of this.

An outdated formula whose operation does not reflect devolution and the existence of the National Assembly

    (16) The Barnett formula pre-dates the establishment of the National Assembly by 20 years but the approach remains the same and does not reflect the changes constitutional position of Wales. The Assembly Government has minimal influence on the funding of its activities and on the operation of the formula. The Joint Ministerial Committee has no formal role in the resolution of any disputes and the Secretary of State for Wales is in a weak negotiating position as a member of the UK cabinet which is dominated by the interests of England.

ADVANTAGES OF THE BARNETT FORMULA

    (17) There are a number of arguments advanced in favour of the Barnett formula:

The formula reduces the need for negotiation with the Wales Office and the Assembly Government

    (18) It is true that the formula reduces the need for the Treasury to negotiate with departments representing the devolved administrations. The counter argument is that there is a corresponding democratic deficit under the current arrangements. The Treasury is "judge and jury" in its own case with little scope in reality for challenge. If the Assembly Government and its members are to be empowered to represent the electorate of Wales they must be able to negotiate with the UK Government in such a crucial area as funding.

The block grant permits the Assembly Government to have a high level of spending discretion

    (19) An advantage of a block grant (as distinct from the Barnett formula per se) is that once the size of the block grant is determined it is to a significant extent a matter for the Assembly Government as to how the money is spent. It is possible that a detailed needs assessment approach to determining the block grant could undermine that freedom.

The formula leads to predictable outcomes

    (20) Defenders of the formula argue that outcomes on a year to year basis are predictable which facilitates the annual budget planning of the Assembly Government. Recent evidence tends to undermine this claim. In the run up to the 2007 Comprehensive Spending Review (CSR) the UK Government made a number of forward spending commitments in England including health and education. From those commitments it was possible to estimate the Barnett consequential for Wales for the three year CSR period: this indicated an average annual increase in real terms of approximately 2.7 per cent.[4] When the CSR was published this gave an annual increase of 2.4 per cent. However the baseline expenditure on which the growth was based had been reduced due to postponement of certain health expenditures in England during the prior spending period. As a result the year on year real increase in the block grant was 1.8 per cent. It was clear from the comments of the Assembly's Finance Minister that this was unexpected as well as unwelcome.

Operation of the formula offsets Wales's weak negotiating position

    (21) Past evidence suggests that Wales has suffered compared with Scotland in the allocation of funds due to its weak negotiating position. One advantage of the current arrangement is that the Department of Children, Schools and Families and the Department of Health are powerful departments within Whitehall and Wales may indirectly benefit from such strength given the correlation between increases in spending in those departments and changes to the block grant. This may be true but it is hardly satisfactory that a democratically elected Assembly Government is not in a position to negotiate the funding settlement for Wales.


3   HM Treasury Needs Assessment 1979. Back

4   Institute of Welsh Affairs, Agenda. Winter 2007. Back


 
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