Fiscal devolution roadmap: has the government set a clear direction of travel?

The government’s fiscal devolution roadmap has arrived. We still don’t know exactly how much income tax revenue England’s mayors will receive, or precisely how the new funding system will operate. Much of that detail will have to wait until next year’s Spending Review.

But we now know enough to assess the broad direction of travel.

First, it’s not just mayors who will be affected. The government has confirmed that councils and mayors will retain 100% of business rates revenues by the end of the decade, up from 50% across most of England now. This will give councils a bigger financial stake in the performance of their local economies. But there are no significant new revenue-raising powers for councils. And for many, the bigger problem is not a lack of financial incentives, but a lack of funding.

We also have answers to a number of questions I posed in a pre-Budget article for PF, based on an IFS Green Budget chapter on fiscal devolution co-funded by CIPFA. So, what does the roadmap say?

First, how much emphasis would the system place on rewarding growth versus protecting against financial risks and widening inequalities?

The government has nailed its colours to the mast. It has opted for what I’d call a balanced approach. Mayors will gain financially if their local tax revenues grow strongly, but there will be guardrails to protect against big falls in funding and limit the extent to which funding can diverge between areas.

That’s a reasonable choice. Some will want stronger incentives for growth, others greater protection against risks and inequalities. But the government has made clear where it stands.

Second, will redistribution keep pace with national tax revenues?

This was perhaps the most important technical question we highlighted before the Budget.

Income tax revenues per person, even from just the basic rate, are around 60% higher in Greater London than in the Tees Valley. Without redistribution, assigning a share of these revenues would mean significantly different levels of funding for different mayors.

But redistribution isn’t just about getting the starting point right. If payments to poorer areas were fixed, or increased only with inflation, they would gradually fall behind growing tax revenues. Our modelling showed that London’s funding could pull billions of pounds ahead within a decade, even if its underlying revenues grew no faster than elsewhere.

The good news? The government has adopted the approach we recommended. Redistributive payments will increase in line with average income tax revenue growth across mayoral areas.

That means places with initially higher tax revenues won’t see their funding pull ahead simply because redistribution fails to keep pace. But mayors will still gain if their local revenues grow faster than average, and lose if they grow more slowly. Redistribution without sacrificing financial incentives. A potentially big pitfall avoided.

Third, would existing funding allocations be revisited?

In our pre-Budget article, we noted that existing integrated settlement funding ranges from £64 per person in London to more than £200 in several northern mayoral areas. Some of this reflects different responsibilities. But some reflect the rather haphazard way funding has been allocated historically.

The government plans to reassess mayors’ spending needs before deciding how much funding each should initially receive under the new system.

That’s welcome. But agreeing those assessments – and the resulting allocations – could be highly contentious. We have an answer on the principle, but not yet on the numbers.

Fourth, how long will mayors retain the proceeds of growth?

The roadmap provides a fairly clear answer here too.

Rather than periodically wiping out all accumulated growth through abrupt resets, mayors will retain the benefits of growth for perhaps 10 or 15 years before those gains are gradually redistributed.

This ‘rolling reset’ should provide more predictable incentives than a system where mayors face a sudden cliff edge. It also prevents a few years of particularly strong or weak revenue growth from permanently changing an area's funding.

Again, a reasonable compromise. But the government should confirm the detailed rules well in advance.

There are, though, two aspects of the plans that deserve reconsideration.

The first is which income tax revenues mayors will share. Focusing on basic-rate revenues makes sense; it reduces geographical inequalities and concentrates incentives on boosting employment and lower-to-middle incomes. But excluding property, savings and dividend income seems questionable. Why should mayors benefit less when residents grow small incorporated businesses rather than work as traditional self-employed sole traders?

The second concerns the proposed safety net against large revenue falls and levies on rapid revenue growth. These are sensible protections, but the roadmap hints that their thresholds may rise only with inflation. Over time, that would make the safety net less generous relative to average revenues, while subjecting more mayors to levies. Updating the thresholds with average revenue growth deserves serious consideration.

Overall, the roadmap is a promising first step. 

The government has answered several important questions, including some in ways we specifically recommended. But there are still choices to make before the system is ready.

And some will want a more ambitious long-term destination. Sharing tax revenues is not the same as devolving tax-setting powers. Mayors will still have little control over how much tax their residents pay, while councils will remain heavily dependent on decisions made in Westminster. The roadmap leaves the door ajar to sharing additional taxes and exploring ways to capture increases in land values. But there is little sign of a rapid move towards greater local tax autonomy.

Nevertheless, this is a well-thought-out first stage of what is likely to be an evolving journey. The medium-term destination is becoming clearer. Getting the remaining details right will determine whether we arrive there.