Are we in a new era of austerity?

Paul Johnson

Hello and welcome to this edition of The IFS Zooms In. I'm Paul Johnson, director of the Institute for Fiscal Studies and today, of course, we're going to be talking about the Chancellor's Autumn Statement. Not everything about the Autumn Statement, that will take us far too long, in particular about government spending and austerity. Are we returning to austerity? What's happening to public spending over the next few years? And to do that, I'm joined by Carl Emmerson, deputy director here at the IFS, and by Gemma Tetlow, whose chief economist at the Institute for Government, and - it ought to be revealed - a previous member of staff at the IFS as well, so very welcome Gemma.  

We had the Autumn Statement last week and several things stood out. One is that borrowing is going to be really quite high for the next several years, even by the end of the forecast period we're going to be borrowing something like £100 billion a year, that's more awful lot of borrowing. We also heard that tax is going to be very high, in fact, tax is going to be as its highest level, essentially, ever. Another four or five years into the 2020, so, lots of tax and lots of borrowing, you might expect that must mean lots and lots of spending. Well, is that actually what's happening? Are we getting lots and lots of spending to go with all that tax and all that borrowing? Let me start with you first on that Carl.

Carl Emmerson 

Well, I think firstly it's important to remember, of course, we're not just pushing up tax, we’ll be cutting spending, and while we're borrowing a lot of money in five years’ time, the plan is to be borrowing less than what we're doing at the moment. So, spending is looking to be reined back over the next few years. The other important point is to think about what is the spending going on, and what the Chancellor’s finding difficult, I think, is an environment where you've got an ageing population, putting pressures on some parts of the budget, obviously, the state pension, also the social care budget, also the health budget. But you've got one part of your public spending, which is really not very attractive, debt interest spending, which is running well above and forecast to continue running well above what we were used to over the period since 2000. And then you've got defence spending where successive governments have cut away at it, and essentially, we've decided we don't want to cut away at that anymore. So, it's an environment, well, yes, we'll be doing quite a lot of spending in five years’ time, but for things outside of defence, debt interest, health, social care, it doesn't look so rosy. Some of those areas where previous chancellors have found cuts or have been delivered by, have been fortunate to benefit from cuts for in the case of debt interest, just don't look like they're there anymore.

Paul Johnson

And Gemma, I think some of the work that you've done, some of the work we've done suggests that, as Carl says, if we keep spending on health and defence at the sorts of - or increasing the sorts of rates that we would expect, there might not be much left to increase spending anywhere else. I mean are we returning to austerity? 

Gemma Tetlow

It’s yes and no. I mean, I think my reflection on the Autumn Statement was that it was probably less tight on spending than we'd perhaps been expecting in the run up to it, and in particular, Jeremy Hunt did announce extra money for some services in the next couple of years. But as you say, that was money very much focused on health, education, social care for the next couple of years, there was no extra money for any of the other public services. And so that means that those services are having to deliver the services in an environment of much higher inflation was expected when they had those cash budgets set. So, if nothing else, public sector pay in those sectors has risen much more rapidly than was factored into the budgets when those were set out last October, and that's going to make it harder for those services to deliver what was expected within the cash envelope that they have. So, it will feel like a squeeze on those non-health, non-social care, non-education services.

And looking beyond the current spending review period into the next parliament, the numbers that were set out in the Autumn Statement offer a very tight settlement on public spending. We don't have details of how they're going to spend that yet, but if they continue, as they have done in recent years, to protect big areas like health, and as Carl said, defence increasingly seems to be one of those areas that they're going to want to protect, that means cuts for everything else. And that will be pretty difficult coming off the back of a decade of doing that already. 

Paul Johnson

So, I suppose the question then comes as to why? Why is government looking to be so tight on spending? The next couple of years are going to be difficult because of high inflation and then the Chancellor has, as you say, pencilled in some really tough years after that. Now the answer they will give is that they need to keep the deficit under control. So, let's talk a little bit about the deficit, that's the other side of this equation. To what extent are they keeping the deficit under control first? And secondly, do they really need to? 

Gemma Tetlow

I think it's a really interesting question and one I sort of reflected on quite a bit. There was quite a lot of discussion of this in the run up to the Autumn Statement, and we had had a lot of leaks coming out of the Treasury about the size of this so-called fiscal black hole with very specific numbers coming out about £55 billion that they would need to raise, and debate about what's that number in any way real and kind of, how do you - if you think it is real, then totting up tax rises and spending cuts to get to exactly that number. So, I think there were reasonable questions raised about to what extent is there a real fiscal hole that had to be addressed here? My kind of take away from that was that, in some sense, 55 billion as a precise number was a bit spurious, it's a number that depends on the forecasts for the UK economy and the public finances, and precisely what fiscal rules the chancellor chose to adopt for himself, how much he wanted to be ambitious on getting debt and borrowing down. So, the precise number is open to question, and is likely to change as forecasts develop.

But the notion that the UK, in the absence of any measures last week, was probably on a path for the public finances that was not sustainable in the long term. So, if the chancellor had stood up and done nothing, we'd probably be in a position where tax increases, more tax revenues coming in over the next few years would not have been sufficient to meet the types of demands from public services that are inherent in the kind of, the current offer that the state makes to people through the benefit system and through public service. And so, whether or not the precise number was 55 billion, the notion that you needed to do something to get us back on a path where we did actually have tax more in line with the demands of public spending, and so, in a position where you didn't have debt inexorably rising relative to the size of the economy, is a real concept, I think. And you already talked about the fact that debt interest costs are expected to be significant over the next few years and much higher than we've had in the recent past. If you don't get borrowing and debt under control, if you have debt rising forever, more relative to the size of the economy, and that just means more and more of your public spending, more and more of your tax revenues going on debt servicing and not on the other things that people really want. So, I think in that sense there is a real component of this that you did need to get borrowing and debt under control in some way.

Paul Johnson

So, the key point you're making there, I think, is that if we haven't done something, then debt would have been on an ever-rising path, and that's something that's not sustainable. But Carl the critique of this often that comes back is, yeah, but look a lot of other G7 countries, they've got more debt than we have now, governments have borrowed enormous amounts to cover COVID and energy crisis and so on. Why can't we borrow more to see us through the next several years, given that even if we did that, debt would still be below that in actually most of the other G7 countries.

Carl Emmerson 

I think whenever a bad shock hits like a financial crisis, like a pandemic, like the current cost of living challenges that we face, it's perfectly reasonable, almost certainly the right thing to do to have government debt go up, and in some cases go up pretty substantially. That's a key part of what government needs to do when these shocks come along. But I think as Gemma says, I think we have to accept that we can't have debt rising as a share of GDP for evermore. And given that we know that when bad shocks come along, we're going to want to increase debt, that does mean at some point we need to be aiming to get it to come down. Now I certainly agree that in terms of some fiscal target it's pretty arbitrary whether you say it needs to be falling in three years’ time or in five years’ time, or some other period of time, but we do need at some point aim to have it on a decisively downwards trajectory just so we can put it back up again whenever these bad shocks come along.

I think it's worth noting that actually the chancellor's forecast, as they stand at the moment, he has debt falling by a miniscule amount in five years’ time. The headroom is £9 billion, that sounds like a big number to most people, in terms of debt falling in five years out, it's basically 50/50 whether that will really happen. So, it's not the case that Jeremy Hunt has set a particularly tight set of fiscal targets, they are pretty much the loosest we've seen in the UK in recent times, and it's not the case that he's looking to meet them with any real significant margin. And I don't think there is any sense in which you, know allowing debt to rise for evermore is an option that's on the table. We do need - we did need to take some action, the right action in terms of how people feel about should we've done more on tax or less on tax? should we have done more on spending or less on spending? is five years, right, should be taking longer to adjust or should we be trying to adjust more quickly? I think there are reasonable things to debate, but not the question of whether at some point we need to get debt on a falling path. 

Paul Johnson

And you're right, of course, what actually happened was not tight at all by comparison with what's happened in in recent years. The Chancellor’s pushed out the point at which he wants to get debt falling from three years to five, he's actually given up for the first time - certainly since 2010 - on having a current budget balance, in other words to borrow only to invest. So, as you say, these are looser fiscal targets and indeed looser fiscal policies, than we've seen for previous chancellors. It doesn't look like the markets have responded particularly badly. I mean, do you think we're sort of seeing a gradual pushing towards greater looseness in fiscal policy, until such time as things start to go wrong again? 

Carl Emmerson

That could be the case. It could be that we'll find a different set of fiscal responses occurring in a couple of years’ time, perhaps the other side of a general election. So it could be that a tighter set of fiscal targets, a tighter fiscal plan comes to pass once we’re the other side of a general election, once perhaps the forecasts have settled down, once, touchwood, the cost-of-living problems that we're currently enduring have passed. And it wouldn't - it's not inappropriate to wait until a moment in time when there's less uncertainty, when things look clearer ahead to say, “right, this is what we really need to do,” rather than setting some plan now and then having to revise it in a year’s time and then revise it again. So, I think, you know, just the economics of wait and see is not such a bad approach, but I don't think listeners should be surprised if, for example, further tax rises or further spending cuts on top of what's already been announced do come at some point. 

Paul Johnson

Well, that's not terribly cheerful to here. Of course, this all comes off the back of the, I think we can safely say disastrous mini budget when Kwasi Kwarteng introduced massive tax cuts and that really did spook the market, so I suppose that we've got at least - on one side we know that you can't do, what Kwasi Kwarteng tried to do, and it looks like you can do what Jeremy Hunt has done, at least for now. There may be some space in between we'll wait and see, but there may not, given how loose, in a sense, Jeremy Hunt has been.

But let's move on from that fiscal picture where, and back to where we started which is on the public spending. And I think it is worth sort of summarising where we are on that fiscal picture. Despite all of that incredible pre briefing, this was not the world's tightest fiscal event in the way that you might have expected it to be, and yet it is going to look quite difficult for public services over the next few years, which is a very nasty place to be. But thinking of those public services, Gemma, you've done quite a lot of work looking at the consequences of what's happened to spending over the last decade and more, on the quality of those public service. I mean what do we know from that experience about where cuts actually we're fine in the sense that spending was cut, and delivery managed pretty well. And what do we know about where spending was cut, and things really didn't go so well and where you might think there's definitely no space for any more tightness?

Gemma Tetlow

As you say, we do a sort of annual assessment of the performance of public services in partnership with CIPFA in our performance tracker. And so, after a decade of cuts to many budgets or slow growth in areas like the NHS, which got increases but arguably perhaps not enough to help them deal with all of the issues that they faced over that period, I mean some stand out as really struggling on the eve of the pandemic after that ten years of cuts. And in particular I'd point to prisons and adult social care. In prisons, casting our minds back, from the sort of 2015 onwards really there was a growing problem of violence in prisons, big fall in the amount of education that prisoners were receiving, and a big increase in self harm going on in prison. So, lots of indicators that after a decade of cuts to prisons budget, cutbacks in staff numbers that prisons were struggling to deliver the kind of experience for prisoners and the rehabilitation that we would hope that the prison service was delivered.

Similarly adult social care, one of the big ways that George Osborne managed to deliver spending cuts during the twenty-tens, was to pass on a lot of that spending cut to local authorities and get them to find a way to do it. The big thing that local authorities deliver is social care, and that's the really big statutory duty that they have. And increasingly, that's taken up a larger and larger share of their budgets as their financing has been cut back, and they've had to focus more of their resources on adult social care. But despite focusing more of their budgets on it, they still haven't been able to keep pace with the demands that sort of grew up during that decade as the older population grew. And so, you saw various ways in which adult social care started to be scaled back, you had things like local authorities cutting down on the length of visits that they gave to people who were receiving adult social care packages, they're getting a fifteen-minute visit instead of a thirty-minute visit. Kind of, perhaps you can do all of that in fifteen minutes, but arguably that was leading to needs not being properly met. And we had a lot of private care providers going under during that period because local authorities were trying to squeeze the amount that they paid, but that to a large extent in some cases wasn't really deliverable. And so now we have problems in the provider market that actually there just aren't the carers out there to provide the services that we now need. So, I think quite a lot of services gradually started struggling over that decade. I mean the one that we picked out as probably having the least problems on the eve of the pandemic was schools, where there was partly a function of the demographics and school age population at that point, they were just about doing okay, relative to their 2009 position. 

Paul Johnson

It's interesting, isn't it, one of the things that is in common between social care and prisons is that most of us, most of the time, aren't using them, and in particular with prisons, most of us probably hope we never see the inside of one of those. And while we might hope we don't need social care, many of us will need it in the future. I guess the other thing that they have in common is that relative to the scale of spending on some of the big social services, on health, on pensions, and so on, these are relatively small numbers - I mean that the prison budget would be, it would you just get lost inside the NHS, wouldn't it? 

Gemma Tetlow

Yes, and actually so in that context, sort of sorting out some of the problems in these smaller services is somewhat easier fiscally, because you could sort out those problems with numbers that wouldn't make that much of a dent in the NHS budget. But as you say, I think some of the politics of these areas is that there's much more political pressure to tackle the NHS backlogs, for example, because they're visible and there's something that many people think is a good thing for the government to be doing. Whereas prisons, there's obviously a lot more debate and different views and opinions about the quality of service that prisoners should be receiving in prisons, although there are obvious benefits to proper rehabilitation going on there. 

Paul Johnson

And indeed, one of the - I mean clearly one of the consequences of, broadly speaking, protecting some of the big spending areas like schools and health, and on the other side of the equation, pensions, was that there had to be big cuts in some of the smaller areas, and it looks in retrospect and probably was obvious in prospect that that was a bit of a mistake. I mean, we know that the government has had to provide, continually provide top-ups for social care, they've had to undo some of the things that they were doing in prisons and in the justice system, they've actually been a little bit more generous to local government over recent years than they were initially, so one of the problems over the next few years is just making up for the lack of money over the previous years. 

Gemma Tetlow

I think that's right, and it also means that having cut back those smaller areas quite a lot, you're actually looking at a much smaller pie this time around. So even if you cut them by the same proportion, it's delivering you less money to free up for the NHS and other things now. 

Paul Johnson

Carl, one of the biggest challenges I think facing the government over the next year or two within all of this is what to do about pay in the public sector, and pay is north of £200 billion a year we spend on paying nurses, and doctors, and teachers, and prison officers, and so on and so on. And £200 billion is an awful lot of money, and obviously each 1% or 200 billion is 2 billion, takes an economist to work that one out. So, each few percent on pay makes a big difference to public spending. And of course, we've had a pretty difficult decade for public sector pay, we've had a very difficult year for public sector pay, and there's not a lot of money left knocking around to even keeping up in line with inflation. 

Carl Emmerson

There isn't. If you look at the forecast that the OBR produced last week, it says that the consumer price index will be running at about five and a half percent in a year time. So, it's a big drop from where it is at the moment, but still well above normal levels, well above what will have been assumed when many spending settlements were made a year ago by Boris Johnson and Rishi Sunak. And at that time, we think maybe they were expecting to increase public sector pay by something in the order of three, maybe four percent. There has been some top ups to the budgets of schools and the NHS which might help that a bit, but for the rest of the public sector, they're going to see there same current budgets, they're going to see their public sector workers not clearly - not going to be happy with pay settlements running around three or four percent - it'll be really expensive to keep up with inflation. We don't know what will be happening to private sector pay, but at the moment it's running ahead of public sector pay, that's clearly not something that can continue over the longer run. Public sector workers could make the decision in increasing numbers to leave the public sector adding two recruitment and retention challenges for the government. So, a very difficult question for the government to answer is what is the right level of public sector pay settlement, both this year and also next year given high inflation, given where the private sector is, and also as you say, given the fact that over the last decade, we've seen on average public sector pay fall in real terms. So, it’s not the case as it was in 2010 when actually squeezing money out of public sector pay might have been okay for a bit because it was coming off the back of an era where public sector pay had grown more quickly than the private sector. We're not in that world, it's been growing less quickly in the private sector pay, it's been growing grass less quickly than even inflation. 

Paul Johnson

And of course, nurses and teachers and others are balloting for strike action, which is again going to be very difficult, particularly in the NHS. And Gemma, do we know - how much we know about the impact of these workforce issues on the sort of delivery issues that you've been talking about? 

Gemma Tetlow

It's a really big issue. I mean, as Carl said, holding down wages was a really big part of the way that they delivered spending cuts in the twenty-tens, and that was doable for a while, but looked much less feasible now with strikes being threatened. There's also quite, I mean we already see workforce shortages in many public services, and looking at the problems that many of the services face, so maybe particular the backlogs that have built up during the pandemic, it's clear that in lots of cases, more money alone is not the answer, you actually need to make sure that you've got relevant, trained professionals to deal with the service issues. So obviously paying higher wages might help with that, might help you attract some people back into those services, but actually in some cases it's probably even more than that. It's thinking strategically about do you actually have the trained professionals that you need? For example, do you have enough qualified people to be judges and magistrates in the Criminal Court system to hear the cases to clear your backlog? So, workforce is a huge part of the problem at the moment.

Paul Johnson

Yeah, and one of the things that again is going to be holding us back in the in the NHS, clearly you need – it takes a long time to train a doctor and a little while to train the nurse.

Gemma Tetlow 

And I think that's a really interesting thing that we saw from the Autumn Statement last week was Jeremy Hunt announcing that they're going to put together an NHS workforce plan, which is something that I think IFS among others, like the Health Foundation and IFG, have been calling for as like quite an important thing, for the NHS to have a view on what service it wants to deliver over the next however many years, and do you have the training going on to deliver on that? So, I think it's really interesting to see Jeremy Hunt, as someone who has experience of being health secretary, being chair of the Health and Social Care Committee, actually, coming into the Treasury and perhaps having a slightly more strategic view on some of those service issues than perhaps some previous chancellors have had. I guess, I think the danger for him is you put together that workforce plan it says that you need many more staff, and then the question comes well, how are we going to finance the training and attracting those people into the service? 

Paul Johnson

Yes, dear listener, you might be surprised to hear that we have never, well not previously had a workforce plan for the NHS, one of the biggest employers in the world on whom we depend enormously, and when it does take years and years and years to train doctors and nurses, and where the workforce is the most crucial part of the entire operation, we have not had a workforce plan. And indeed, I believe earlier this year the government voted down an effort by MPs to get it – force it to have a workforce plan. So, you might think we have got to stage one, you know many, many years into this whole set of problems.  

So, we've got this looking like difficult period going forward at the moment the Chancellor is not reopening the spending review, which agreed numbers last autumn. He's provided a little bit more money for schools and hospitals as we've said. How do parliament, how do public services going to respond to this in the short run? 

Gemma Tetlow

One possible way to answer the question is to look back at how did they approach delivering cuts in the twenty tens? I think some quite interesting sort of common themes that come up which are, in addition to holding down wages, there was kind of efforts to cut staff, particularly cutting back line, more management/ administrational staff in many of the services. There was a drive to get staff to work harder just to deliver more, for example, raising pupil teacher ratios in schools was one way that they did that. There's big cuts to capital spending, which are now leading to sort of backlogs of maintenance problems in schools and hospitals and courts, and arguably now creating costs and problems in delivering the services you want. We sort of touched on it earlier that there's a shift away from preventative and early intervention services towards more acute and statutory services, so for example, cutting back on Sure Start centres, and youth centres provided by local authorities, and focusing much more on the acute end of children social care. Again, you can see the problems of that now playing out that having not dealt with the problems early and arguably at the cheaper point of the cycle, you then end up with potentially higher costs later on when those more acute issues transpire. There were efforts to reduce the scope of what was provided, so shutting down libraries, being stricter about who you offer social care to, for example. And there were efforts to increase revenue sources, so particularly local authorities went down this route, but raising Council tax rates charging more for things like planning applications and introducing parking charges in hospitals and things. Running down that list, I think almost all of those have been pushed pretty far, and it's hard to see how you can make much more out of those.

I think arguably the last one is where I can see that perhaps there is more scope to do that, so essentially charging more for the services that people receive in a way that it's not labelled as a tax, but effectively is higher taxes. The difficulty with that, I think, is if you’re talking about council tax rises and last week, they raised the threshold for no referendum required to 5% council tax rises. That helps some councils much more than others, so those that have a much richer tax base will raise more money from increasing council tax rates than others will do, so, there are dangers to inequalities there. And just charging people more for the services that the council provides obviously potentially introduces other types of inequalities that you're essentially no longer providing free government services, if you need the service, you're ending up paying for it, and it's less obvious what the distributional impacts of that are. So, I don't think I have a good answer to how you do this, I think much of it is run out of road, and some of the ways that you might push forward with this maybe sort of tax by another name. 

Paul Johnson

Interesting, and of course the other sorts of cuts that you talked about were in a sense of the obviously wrong ones with cutting capital spending in the NHS and elsewhere, cutting early intervention preventative services just creates problems further down the line. Before we come to an end, Carl, I want to go back to, sort of, some of the things you were talking about right at the beginning, which is about the longer term. We've got this very high debt interest bill going forward, and you've already talked about the fact defence spending isn't going to be going down anytime soon, probably, and we know about the pressures from the NHS. Are we in a sort of a whole generation now of squeezed public services, of high tax? I mean is there a way out of this? 

Carl Emmerson

Well, perhaps the thing we haven't mentioned, of course that's creating many of these challenges is the fact that the economy is just not growing by enough, and that if we were sat here in 2007, we would have been talking about how, you know, it would be perfectly reasonable to assume that productivity growth would be 2% a year plus going forwards. And that doesn't mean we would now be in a world where there weren't trade-offs, we'd obviously have decisions to make about who to tax and what public services to provide, but I think those trade-offs would just feel much easier in a world where you're just adding to the pie each year, and you're just choosing how to allocate some of the, as Mr. Osborne once described as, the proceeds of growth.

In the world where the economy is just, growth has just been so low for so long and it's forecast to be so low in coming months and years too, all these trade-offs just look much more - just are just much, much harder. And of course, in some sense the adjustments that public services are having to make over the next couple of years are a bit similar to the fact that households and businesses are having to make loads of adjustment because we buy a lot of gas on European markets and gas is more expensive than it used to be, so we're poorer as a country. So, it's perhaps not surprising that some of the trade-off we are making is to say, well, it's going to have to be a bit difficult for public services, isn't it? Just as it's going to be difficult for many households, just it's going be very difficult for many businesses. That's not a very optimistic view.

To give you a couple more positive notes perhaps. I think Gemma was talking about where some of the cuts were done previously and where some of the mistakes were, actually, on public sector investment, Jeremy Hunt did trim those plans back a little bit, but they're still planning to invest quite a lot over the next few years compared to what UK governments have done in the past. So, even if you look forward through the governments plans over time, even by ‘27/’28, when this kind of, the bit of trimming that Mr. Hunt did is complete, we'll still be spending a bigger share of national income on investment than we did in any year between 1984 and 2007. So, I think perhaps there there's an area where perhaps the government has learned the lesson and doesn't want to repeat that.

And another area where perhaps there's a little bit of glimmer of hope is that, yes, we're going to be spending a lot more on debt interest over the next few years than we expected back in March, I think that's pretty clear, I think it's quite possible we won't spend quite as much as what the government forecasts imply. It may well be that the interest charges that they're assuming won't quite be as great, so it could be that things aren't quite as bad there as we might fear.

Paul Johnson

That's about as optimistic as we're going to get, I think, the odd glimmer of hope and not quite as bad as some of the forecasts suggests. But it looks like a, to use that horrible phrase, we're in a bit of a new normal where for quite a long period, public services are going to continue to feel squeezed, and so are all of we as our incomes don't rise very much, and our tax burden does increase. And as you so eloquently say there, Carl, if we're all worse off then it's not surprising that the public services take a bit of that hit, and one of the things that always occurs to me when we talk about this, is that as a fraction of national income, we spend a perfectly respectable amount on health. But because our national income has fallen behind that of lots of other comparable countries, we’re spending less in pounds terms than they are, and therefore we're getting less for it, and those are really difficult choices that we have to make.

Sorry I'm not even managing to end on that mildly positive note that you managed Carl. I think what we've concluded is that despite lots of borrowing and lots of taxes, spending is going to still feel squeezed over the next few years, particularly, I suspect if you are a worker in the public sector, if you're a teacher, nurse, a prison officer, or civil servant, things are going to look particularly difficult. That's going to be very hard for the government as well, both making those decisions and responding to, quite likely, industrial action in the public sector. Go a little bit further down the road, whilst Jeremy Hunt probably pushed the envelope about as far as he could in the Autumn Statement last week in terms of being less ungenerous perhaps than people had feared, it's still going to be a difficult few years.

Well, thank you Gemma, thank you Carl, and thank you everyone for listening to this episode of the IFS Zooms In. To see more of our work, do visit www.ifs.org.uk, and to further supporter us do consider becoming a member for as little as £5 a month. We'll see you next time.