Examination of Witnesses (Questions 700
- 718)
FRIDAY 27 MARCH 2009
Mr Leo O'Reilly, Mr Richard Pengelly and Mr Mike
Brennan
Q700 Lord Sewel:
Do politicians realise that?
Mr O'Reilly: I suppose the history of this has
shown that over the 30 years of Barnett there has not been a major
problem in the way the Formula has operated, so I suspect because
of our historical experience we tend not to anticipate, perhaps
incorrectly or unwisely, a major problem moving ahead around this
issue for the foreseeable future.
Q701 Lord Sewel:
That was because we were all at it doing bypassing as much as
we could, was it not?
Mr O'Reilly: It is that combined with the pace
and rate of increase in total public expenditure and now that
we are entering a period where it is likely that public expenditure
growth will be much lower than it has been over the last decade,
say, then the convergence will lessen.
Mr Brennan: It acts as a dampener.
Mr Pengelly: Mike's point is very strong on
the counterfactual position. Barnett in the last Spending Review
delivered for the Northern Ireland Administration in the region
of 1 per cent real terms growth per annum. If we compare that
to the likely outcome from a subjective dialogue with the Treasury
we could point to many Whitehall departments, which I suspect
would be likely to present as compelling a case as we could for
strong need, receiving flat cash or, indeed, cash reduction in
terms of outcomes. It is trying to get a sense of what you are
comparing it with. Barnett may not deliver as much as people want,
but I suspect it delivers more than we would receive by another
method.
Q702 Chairman:
I still have problems with the application of a Formula which
is based upon population ratios 30 years on from the time when
it was first introduced.
Mr Brennan: Although the population ratios are
updated now on an annual basis, that was not the case until ten
years ago and that was a fundamental flaw. The Treasury agreed
in 1997, I think, to use annual updated population shares.
Q703 Lord Sewel:
The recalibration applies to the increment, it does not apply
to the block. We are back to population increase again. If your
population is increasing the block refers to a level of provision
for a smaller population.
Mr Brennan: Yes.
Mr O'Reilly: Just reflecting on your comments
there, part of the discussion we are having has to be constrained
by your terms of reference but if you get into a more abstract
discussion on these issues you inevitably draw yourself into issues
of revenues and regional revenues and the issues that those raise
because if you look at models of distributions to regions within
other states in the world it is usual that there is an interaction
between needs and local revenue raising or, as they talk about
it, fiscal effort. In a sense, the UK system sets aside and takes
as a given there is a national tax system and that influences
how we approach these issues of dealing with expenditure levels
in devolved administrations.
Q704 Chairman:
Yes. I suppose if you had responsibility for social security expenditure
you would do things rather differently. I think that is certainly
true.
Mr O'Reilly: Inevitably.
Q705 Earl of Mar and Kellie:
It is also interesting that when you were talking briefly about
the possibility of varying corporation tax in Northern Ireland,
that was not going to bring the Northern Ireland Executive any
more money and it was not going to reduce it because that would
have merely reduced the amount flowing to the Treasury, there
would be no increase in income.
Mr Brennan: No, it would have cost both the
Northern Ireland block and the UK Exchequer. There would have
been a net cost to both.
Q706 Earl of Mar and Kellie:
So if that had been implemented there might have been a claw back?
Mr Brennan: The implications of the distant,
now infamous, Azores judgment would imply that the shortfall
in revenue, in corporation tax, would have had to have been covered
by the Northern Ireland devolved administration, but at a wider
UK level there would have been a tax distortion as well in terms
of shortfall in revenue through transfer pricing and also lower
tax-take at a UK level. What Sir David Varney estimated was somewhere
in the order of two billion over ten years.
Mr O'Reilly: Against that you have got to factor
in that because of the market failure in our local economy there
is a lot of public expenditure intervention, but with a different
fiscal regime that market failure would reduce and, therefore,
the need for public expenditure would reduce in terms of those
issues.
Q707 Earl of Mar and Kellie:
So there would be GVA. It becomes a very complicated way of working
it out.
Mr O'Reilly: It does, yes.
Q708 Lord Sewel:
There is another issue which is at the end of the day through
the Barnett consequentials it is driven by an English pattern
of expenditure. Is that not really incompatible with the concept
of devolution because devolution is there to enable the territories
to develop their own priorities, their own programmes, and over
time it is clearly the case in Scotland that the profile of provision
is diverging significantly from the profile of provision in England
yet the expenditure reference is the English profile?
Mr O'Reilly: What you are saying is simply stating
what is the truth, which is the variations in the Barnett Formula
from one Spending Review to the next are determined by how the
expenditure allocations work out in the Whitehall Spending Review
negotiations. To take a simplistic example, we are always aware
that if there was a very major push to increase defence expenditure
substantially we would get no Barnett consequentials, therefore
that would have a comparatively detrimental effect on us, whereas
if there was a very major push to increase expenditure in the
Health Service, because we have high Barnett comparability factors
that would benefit us. In an absolute sense you are right, but
then what other mechanisms do you have to lessen that distortion
of basically being driven by Whitehall allocations. The main one
is when there is money allocated to the devolved administrations
via Barnett it is for the devolved administrations to decide how
those sums are distributed amongst the various services for which
the devolved administrations are responsible. Going back to the
2004 example, this is why the Treasury reintroduced the split
between resource and capital and constrained the movement between
those two control totals. It meant that, in effect, variations
to our capital were being driven by what was the consequence of
Whitehall departments' requirements for capital allocations and
in a sense that accentuated the problem for us that you have highlighted.
Q709 Lord Sewel:
This is a silly question in a way. In England, water is privatised
and in Northern Ireland it is not. Do you get any money for the
water?
Mr O'Reilly: No, we do not.
Mr Pengelly: I think that is a very important
issue. The Treasury answer is that this reflects a policy choice
by the devolved administration. Clearly, as regards the Barnett
Formula, if things were in the private sector and outwith the
public sector in England there is no public expenditure so there
will never be a Barnett consequence and that is a very understandable
and logical position. The Treasury view would be in essence that
exacerbates the "Barnett squeeze" because you are having
to divert money flowing from the Barnett Formula to services outwith,
but there is an available solution to devolved administrations
to deal with those issues, which takes us back towards the issue
of revenue raising and I know you do not want to get into that.
That service in the public sector as well as the private sector
is funded by charging in England and Wales. If there is a policy
choice by a devolved administration not to do that, the Treasury
would not see that as an issue at all to do with the Barnett Formula,
that is an issue purely about policy choices by a devolved administration.
Q710 Lord Sewel:
What happens if the Health Service in England becomes an insurance-based
service?
Mr O'Reilly: We would have an issue to consider.
Mr Pengelly: In many ways, certainly from the
public perspective, notwithstanding devolution, there still is
a National Health Service in the United Kingdom. The changes between
England and the devolved administrations tend to be around the
margins. Clearly a change of such fundamental significance as
that would cause the health ministers in the devolved administrations
to pause for thought if nothing else.
Lord Sewel: You certainly would not have
any Barnett consequentials, would you?
Q711 Chairman:
It does increase the block.
Mr O'Reilly: This line of questioning does get
into something which I noticed you raised in the various questions
that you might raise with us, which is the issue of the interaction.
I know that national tax may not be outside the remit but local
revenue raising capacity in terms of the council tax in Scotland
and Wales and the rates system here obviously interacts with the
overall capacity of a devolved administration to deliver services.
That has a particular implication here because while council tax
in Scotland and Wales, as I understand it, goes exclusively to
support the local councils, in Northern Ireland part of our rates
revenue is used to support the services funded by the Northern
Ireland Executive and that simply reflects the historical fact
that the Executive is responsible here for education provision
and certain other services that in the rest of the UK the local
government would have a key role to play in in delivering the
funding of those services. There is a further interaction around
those issues locally.
Q712 Chairman:
Can I come back to your papers in 2001-02. Did the Treasury, as
far as you know, produce anything on their side of the argument?
Mr Brennan: No. We copied the Treasury into
the work that we were doing as it evolved for comment but we got
no formal critique back on the methodology we employed or the
results that we produced.
Q713 Chairman:
You did not gather that they were doing a needs assessment or
something of that sort at that time?
Mr Brennan: No, not that I am aware of.
Q714 Chairman:
So it was just Northern Ireland?
Mr Brennan: Yes.
Mr O'Reilly: It is fair to say that they were
not enthusiastic about the fact that we were doing it, put it
that way.
Q715 Chairman:
I wonder why! Thank you very much, I think we have had a good
run round the course and it is very interesting indeed. I have
to tell you my experience so far with evidence is that on the
whole some form of introduction of the needs assessment does seem
to be fairly popular with many people we have talked to.
Mr O'Reilly: Our concern is with the complexity
and subjectivity of such a needs assessment. I suppose I would
say an essential requirement is that there would need to be some
form of independent/objective oversight because our experience
would indicate it could create difficulties for us if it was left
exclusively to the Treasury to arbitrate.
Chairman: I think we would all agree
with that.
Q716 Lord Sewel:
If you could be absolutely copper-bottomed guaranteed that the
needs assessment would be done by an independent, non-Treasury
outfit, something like the Australian Commonwealth Grants Commission,
would that change your view on needs assessment?
Mr Brennan: It would certainly mean that we
would probably have less fear of what I call the Barnett consequential
world that may exist out there. Basically we have got a great
fear of the unknown.
Q717 Chairman:
The other general point we have been hearing, particularly since
we have been here, is you should not interfere with Barnett at
the moment because Northern Ireland needs a period in which to
let the devolved government bed in and the problems begin to resolve
themselves rather more, but further down the road that might be
a different proposition. Do you feel that?
Mr Brennan: This goes back to the earlier point
I made about the level of understanding in the political class
here about how Northern Ireland is funded. There is still a lot
of education to be done out there in terms of where resources
come from and how they are used. For example, if you were to impose
a needs assessment model now the external shock that could bring
to the decision-making process of the devolved administration
could be very destabilising. Once you bestow credibility and there
is greater understanding about how resources are allocated to
Northern Ireland in that mature environment then you do have a
debate.
Mr O'Reilly: There is a further interaction
here with another major issue, which is the dependence of the
Northern Ireland economy on public spending. It is an historical
fact that we have an underdeveloped private sector, perhaps for
obvious historical reasons, and people would say it is a clear
objective of the Executive to build the size, coherence and strength
of the private sector here but we would say that is going to take
a bit of time to allow that to happen and to reduce the scale
of dependence in Northern Ireland, which I think most commentators
accept is excessive dependence, on the public sector.
Chairman: That is a very long-term prospect.
Q718 Lord Sewel:
So a "Barnett squeeze" would be economically attractive
in that it would cease the crowding out of the private sector
by the public sector, is that the sort of argument that you could
make?
Mr Brennan: The key problem is the size of the
private sector. It is not that the public sector in Northern Ireland
is too large, it accounts for about two-thirds of regional GVA,
but if you look at the public sector in Northern Ireland and compare
it with Scotland, Wales or England in terms of the number of public
sector employees or services provided it is very, very similar,
it is that the private sector in Northern Ireland is far too small.
Mr O'Reilly: The problem is the overall size
of the economy is too small here because you have an underdeveloped
private sector.
Chairman: Thank you very much indeed.
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