The Barnett Formula - Select Committee on the Barnett Formula Contents


Memorandum by the Welsh Local Government Association

INTRODUCTION

  1.  The Welsh Local Government Association (WLGA) represents the 22 local authorities in Wales. The three national park authorities, the three fire and rescue authorities and four police authorities are associate members.

  2.  It seeks to provide representation to local authorities within an emerging policy framework that satisfies the key priorities of our members and delivers a broad range of services that add value to Welsh Local Government and the communities they serve.

  3.  The WLGA welcomes the opportunity to respond to Call for Evidence from the Select Committee on the Barnett Formula. This submission sets out the WLGA's views of the present formula and goes on to consider possible alternative funding mechanisms and the scope for the Welsh Assembly Government to have borrowing and tax varying powers.

THE EXISTING "BARNETT FORMULA"

  4.  The Barnett Formula was devised in the late 1970s as an adjustment mechanism, intended to adjust the historic expenditure baselines of Scotland, Wales and Northern Ireland in a manner which would ultimately achieve standard spending per head across the United Kingdom, ie achieve convergence.

  5.  Since devolution calls for a review of the Barnett Formula have grown stronger as questions have been raised about its validity as a means of distributing resources. With similar reviews being undertaken by the Holtham Commission in Wales and the Calman Commission in Scotland the House of Lords Select Committee is timely.

  6.  The existing formula appears relatively straight forward using population share and comparable functions as its drivers. In essence, when there is an addition to public expenditure in England on functions which have been devolved to Wales then there is a consequential addition to the allocation to the Welsh Assembly Government based on the ratio of Wales to England population. The allocation to the Welsh Assembly Government is therefore partly based on the historic allocation, fixed in 1979, plus population based changes made thereafter. Over time it was anticipated that the population based consequentials would grow to over-ride the historic allocation and convergence would increasingly be achieved.

THE BENEFITS OF BARNETT

  7.  There have been benefits to Wales from the application of the Barnett formula. The "automatic" nature of the consequential adjustment has provided the Welsh Assembly Government with relatively predictable and guaranteed increases in expenditure since 1999. The grant to the Welsh Assembly Government has remained very largely un-hypothecated and this has allowed the democratic politics of Wales to set and challenge public expenditure priorities. The formula has continued to provide a level of public expenditure in Wales on comparable functions which is higher than that in England, even if significantly lower than that in Scotland and Northern Ireland. Convergence has been slower than many would have expected. This is partly because population growth in Wales has been slower than that in England and because there have been occasional extra-Barnett allocations, eg the provision of additional public expenditure cover for European Structural Funds.

THE PROBLEMS WITH BARNETT

  8.  However, it is the view of the WLGA that the benefits gained from Barnett are now less significant than the anomalies it has created. In particular, the formula takes no account of the particular needs of Wales and there is no evidence available to justify the lower levels of comparable expenditure in Wales compared to that in Scotland and Northern Ireland. Another difficulty with the application of the Barnett formula which concerns the WLGA is its lack of public transparency and the apparently unchallenged ability of the Treasury to impose its own interpretations and amendments to the application of the formula (particularly between Spending Reviews) in ways which are not open to public debate or challenge. For instance, we understand that the Treasury has determined that the local regeneration expenditures in south east England associated with the Olympics are not comparable expenditure so no consequential has been derived for the devolved administrations; there has been no public declaration, debate or challenge over this unilateral decision.

  9.  The Treasury's decision, in around 2003, to hypothecate the Welsh block into capital and revenue components is another example of a unilateral decision which has had a significant impact on public finances in Wales. Since 2003-04, the Welsh Assembly Government's settlement has been split into three fixed sub-limits for revenue, capital and non-cash (ie capital charges) all derived using the Barnett formula. Introducing these sub-limits with little or no flexibility to move between them has removed the discretion of devolved administrations to decide their own spending priorities within an overall block grant.

  10.  The policy intention of introducing a capital and non-cash limit was to improve the management of public sector assets and increase departmental accountability. While this may have worked in UK departments, the introduction of a capital limit using Barnett has not delivered the desired effect in Wales. Using Barnett to set a capital limit ignores significant historic differences in individual countries' asset bases (in terms of quantity, market value and quality) and the extent to which UK departments have used the Private Finance Initiative (PFI), compared to Wales. In Wales there is a multi-billion pound capital investment gap in public sector infrastructure (schools, housing, waste management and transport etc). One way forward would be to increase the revenue provision to local authorities in a manner that would allow them to extend their prudential borrowing to fund the necessary capital expenditure. The hypothecation of the block grant prevents this course of action. There is also a problem of inflexibility in financial management when inevitably some capital programmes do not fully utilize their allocation in a given financial year. Without the ability to switch such expenditure to revenue the allocation is returned to the Treasury and its future use may be restricted if the Treasury exerts controls over End-of-Year Flexibility.

  11.  The WLGA believes there is a need to formalize the arrangements between HM Treasury and the devolved administrations to ensure that decisions which affect funding allocations are transparent and are not taken without formal agreement from devolved governments. Such a move would ensure that the implications for devolved administrations of policies developed in Whitehall were fully understood before changes to funding arrangements could be made. This issue is discussed further in paragraph 18 below.

An Alternative Mechanism

  12.  The WLGA believes that an alternative distribution mechanism based on an open and transparent assessment of expenditure need would deliver more resources for public expenditure in Wales and, on that basis, supports the proposition that such an alternative mechanism should be developed and implemented. A needs based assessment would allocate above average resources to areas of greater deprivation, where the need for public services are greater, and to areas of sparse population where the cost of service delivery is higher. On both counts Wales would justify on a needs assessment above average expenditure levels to an extent that Barnett is currently not delivering and, given the intended convergence, will increasingly not deliver in the future

  13.  We have identified six key principles for any new mechanism:

    1. The principle of Simplicity and Transparency;

    2. The principle of Distribution according to Needs;

    3. The principle of Non-Hypothecation;

    4. The Principle of Independent Advice;

    5. The principle of Fiscal Compensation; and

    6. The principle of Flexible Financial Management.

The Principle of Simplicity and Transparency

  14.  Any replacement must be simple and transparent if it is to achieve the credibility that the current arrangements arguably lack. The public needs confidence that the future allocations are "fair" in outcome and in process. They need to be able to see the criteria that inform the allocations and need to be assured that the application of such criteria is not capable of any arbitrary manipulation.

The Principle of Distribution according to Need

  15.  In outline the assessment of expenditure need in any distribution formula has just three elements:

    — The identification of the relevant population base for the expenditures being allocated;

    — The identification of the relative need for the relevant public services and this will be driven by measures of relative deprivation;

    — The identification of the relative costs of service delivery and this will be driven by measures of the relative sparsity of population.

  16.  Whilst there is conceptual simplicity in identifying just three elements, in practice the development of indicators and their weightings to give effect to these elements can lead to complexity and confusion. At this stage the best that can be said is that the indicators chosen should be relatively few in number, chosen and weighted in accordance with their broad effect on expenditure need. The alternative path of very detailed service based indicators leads to the sort of complexity that can bring these systems into disrepute and can lead, perhaps unintentionally, to a convergence of policies and priorities between the different devolved administrations.

The Principle of Non-Hypothecation

  17.  There is a danger that the UK Government would see the review of Barnett as an opportunity to introduce greater hypothecation of the grants available to devolved administrations, perhaps requiring that grants are made conditional on the pursuance of UK Government priorities. Such a move would be opposed by the WLGA which is convinced that the devolution of democratic political choice to devolved and local administrations is only made real when those administrations can set their own budgets. In supporting the Welsh Assembly Government on this principle Welsh local government would expect that the same principle is applied to the distribution of grants to Welsh local authorities.

The Principle of Independent Advice

  18.  In principle, the WLGA sees merit in the establishment of an independent organisation such as the Australian Commonwealth Grants Commission to advise on the process of equalisation between devolved administrations and regions. Ultimately the WLGA recognises that resource allocation is a matter for elected governments, but the availability of independent advice would require governments to explain their decisions and give reasons for the departures from the advice taken. This discipline on governments would mitigate against arbitrary or partial decision making. In the distributions to Welsh local government there have been occasions when independent reviews have been commissioned. Sometimes the advice has been accepted by the Welsh Assembly Government and Welsh local government, sometimes not; but the challenge provided by such advice has invariably been positive. An Australian style Grants Commission would provide this sort of advice on a standing basis and would ensure greater transparency of decision taking by governments.

The Principle of Fiscal Compensation

  19.  Should greater fiscal autonomy be given to devolved administrations through assigned taxation or tax varying competence then it must follow that the grant allocation to the devolved administration compensates for variation in the tax bases in each devolved administration. The grant distribution to local authorities is designed to achieve this. However in so far as total public expenditure in Wales relies on the contribution of the council tax and the Non Domestic Rate, the current Barnett formula is not designed to compensate for the relatively low tax base, driven by relative property values, in Wales. In this respect, and in respect of any further fiscal devolution, the grant distribution should provide for fiscal compensation.

The Principle of Flexible Financial Management

  20.  Local authorities have reasonable powers for flexible financial management in that they are able to borrow and hold reserves. The borrowing powers of local authorities were recently extended under the system of prudential borrowing which allows them to make a rational decision to commit future revenue, through borrowing, to finance capital projects in a manner that properly spreads the burden of funding long term assets to future service users.

  21.  The WLGA believes the Welsh Assembly Government should have similar financial flexibility to that of local authorities both in terms of borrowing powers and holding of reserves. Such a move would strengthen the financial responsibilities and accountability of the Welsh Assembly Government, which in turn should improve the efficacy and efficiency of its financial planning and asset management. When combined with a needs based formula, these powers would enable the Welsh Assembly Government to enter into longer term financial commitments helping to address the country's infrastructure and revenue needs more effectively.

ISSUES FOR FURTHER CONSIDERATION

  22.  Several academic commentators have remarked that public spending expenditure for a region and in a region are not the same thing at all. This is particularly important to Wales in the context of the high proportion of the population claiming welfare benefits which is non-devolved expenditure. What would be the implications, if any, for non-devolved expenditure should a replacement for the Barnett Formula be agreed? And how would this impact on the differentiation between the Welsh Assembly Government Departmental Expenditure Limit (DEL) which is subject to the Barnett formula and Annually Managed Expenditure (AME) which is not?

CONCLUSION

  23.  The WLGA believes that there are some clearly established and fundamental considerations that should inform the Select Committee's further work. These are covered in this paper. Equally, however, there are several key questions—also identified, but as yet unanswered which certainly bear further scrutiny to determine where the balance of advantage lies for Wales, but recognising that if a better model is to be found it will need to be acceptable to the other devolved administrations and take account of the fact that many in England believe that devolved administrations already receive in excess of their entitlement.

February 2009






 
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