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The Chancellor’s spending plans are even tighter than they seem

Observation

The March Budget was not short of spending announcements. The Chancellor extended some £65 billion of support for households and businesses into the coming financial year, including high-profile extensions to the furlough scheme, self-employment income support scheme, and the £20 a week uplift to universal credit. Yet we heard much less about the Chancellor’s plans for spending on public services. That’s primarily because most of the big decisions there were made last year, at the November Spending Review. 

But buried in the Budget document, and unmentioned in the Chancellor’s speech to the House, was a £4 billion a year cut to departments’ non-virus budgets from 202223 onwards, on top of the £10 to £13 billion cut from those spending plans in November. In their analysis published alongside the Budget, the OBR noted that these cuts to future spending plans, combined with pre-agreed cash settlements for the Ministry of Defence and the NHS and schools in England, would imply a real-terms cut of around 1% for remaining, ‘unprotected’ departments between 202122 and 202223. But this figure does not account for the Barnett formula and therefore it actually understates the scale of the cuts facing unprotected departments in 202223, which is in fact more like a 3% real-terms cut. And, if instead of focusing on year-on-year changes, we compare to the level of spending that was planned pre-pandemic, the cut is greater still. The outlook for unprotected public services under these plans is therefore even tougher than it seems.  

How have the government’s spending plans changed, and why?

When we talk about spending on public services, we are typically referring to what is known in the jargon as Resource Departmental Expenditure Limits, or RDEL. RDEL covers central government departments’ day-to-day spending on the running and administration costs of public services, which includes staff costs and grants paid to local authorities. 

In the November 2020 Spending Review, the Chancellor chose to cut £10 billion from his ‘core’, or non-virus, RDEL plans for 202122, and to maintain the assumption of 2.1% average real-terms growth (i.e. 2.1% per year over and above inflation) between 202122 and 202526. The planned growth rate from 202122 onwards was therefore left unchanged, but because those future 2.1% increases were calculated relative to a lower starting level (in 202122), spending plans for each year between 202223 and 202526 were also revised downwards (by between £11 and £13 billion, relative to pre-pandemic plans). 

In the March 2021 Budget, the Chancellor trimmed an extra £4 billion or so from planned RDEL spending in each year from 202223 onwards. That will mean spending up to £17 billion less than under pre-pandemic plans. The Treasury argue that there’s nothing to see here, that this additional £4 billion cut is a purely mechanical change because of a lower forecast for inflation between 2021–22 and 2022–23. The argument is that because the inflation measure generally used to calculate real-terms changes in public spending (the GDP deflator) is now expected to be lower in 202223 than previously forecast, the Chancellor can maintain his previous pledge to increase (non-virus) spending by 2.1% in real-terms between 202122 and 202223 with a smaller cash-terms increase. 

But while it is true that inflation is expected to be lower in 202223 than previously forecast, inflation in the coming financial year, 202122, is expected to be higher. Both of these changes are driven by a technical issue around measuring government activity, with the new lockdown imposed from the start of this year pushing up the GDP deflator for 202122 and reducing it in 202223. Crucially, while the government has cut cash budgets for 202223 to reflect lower-than-expected inflation in that year, they have not topped up departments’ non-virus budgets in 202122 to reflect higher-than-expected inflation. They have, in effect, acted on one and ignored the other, and saved £4 billion per year in the process. 

In fact, higher inflation in 202122 more than offsets lower inflation in 202223, meaning that the economy-wide price level in 202223 is expected to be higher than was forecast in November. Despite that, departmental budgets in 202223 will be £4 billion lower than planned in November, and £14 billion lower than was planned pre-pandemic. Describing this as simply a ‘mechanical change’ is misleading. It’s a choice. 

It is also important to note that some departments are unaffected by this £4 billion a year cut, because they have pre-existing settlements with the Treasury that are fixed in cash terms. Specifically, plans for schools spending in England have been set up to 202223; the NHS England settlement runs to 202324; and the Ministry of Defence settlement runs to 202425. And, although overseas aid spending was cut sharply in 202122, the aid budget would need to grow at least in line with the cash size of the economy in 202223 if it is to maintain its share of national income (0.5%, down from the previous 0.7%). The upshot is that the Chancellor’s £4 billion cut to cash spending plans falls in its entirety on the remaining, unprotected departments – i.e. those not fortunate enough to be protected by a pre-existing agreement with the Treasury. 

What do these plans imply for unprotected public services?

The Chancellor’s cuts to his overall spending plans, combined with commitments to the NHS, schools, defence and aid budgets, leaves unprotected departments facing an extremely tight settlement. The OBR calculate that, on the basis of the government’s latest plans, and the assumption that overseas aid spending remains at 0.5% of national income, budgets for those unprotected departments would need to fall by 1% in real-terms between 202122 and 202223. That would imply cuts for perennially squeezed areas like justice and local government, but also for departments with sizeable post-Brexit responsibilities, like HM Revenue and Customs and the Home Office. The OBR, in their understated manner, noted that this sets up “a challenging Spending Review later this year”.  

These figures actually understate the challenge for those unprotected departments, though. The OBR’s figures do not account for the fact that greater spending on the English NHS and English schools means greater funding for the Scottish, Welsh and Northern Irish governments, via the Barnett Formula. (Together, the NHS and schools settlements in England imply around £1.7 billion of additional funding for the devolved governments in 202223, partially offset by the Barnett consequentials of cuts to spending on unprotected departments in England). Once the Barnett consequentials are accounted for, unprotected budgets are in fact facing a real-terms cut of around 3% between 202122 and 202223 (Figure 1). Cuts on that scale would pose clear and obvious challenges, not just because of the new pressures posed by the pandemic, but also because of the deep spending cuts endured by those public services in the decade after 2010. Furthermore, it’s difficult to see how further cuts to local government could be reconciled with a coherent levelling up agenda. 

Figure 1. Change in real-terms resource funding, 2021−22 to 2022−23

Note: Resource DEL refers to HM Treasury’s definition of resource DEL excluding depreciation, and excluding exceptional Covid-19 spending. ODA denotes Official Development Assistance; all figures assume that this is maintained at 0.5% of national income. 

Source: Author’s calculations using HM Treasury Spending Review 2020 and Budget 2021, and Office for Budget Responsibility Economic and Fiscal Outlook, March 2021.

Looking at year-on-year changes is one way to think about the tightness of these spending plans. Another is to compare to what was being planned for those areas in March 2020, prior to the pandemic. Overall RDEL in 2022−23 is now set to be roughly £14 billion lower than what was planned pre-Covid. Some £5 billion of that comes from lower spending on overseas aid. Areas like the NHS and schools are protected. That means that cash spending on unprotected departments in 2022−23 will be around £9 billion, or 8.5%, lower than under pre-pandemic plans. The price level (as measured by the GDP deflator) is expected to be 1.1% lower in 2022–23 than was forecast back in March 2020. So, unprotected departments are facing a real-terms cut to their 2022−23 budgets of around 7.5%, relative to pre-Covid spending plans. In other words, despite the many potential enduring spending pressures arising from the pandemic, the government is planning to spend 7.5% less on those public services. And alongside this it is planning to spend exactly the same in cash terms, or just 1.1% more in real terms, on schools and the NHS than was envisaged pre-pandemic, despite the huge ongoing challenges those departments will face. 

Conclusion

These spending totals are not set in stone.  It’s possible that the Treasury have deliberately opted to ‘lowball’ the spending totals to strengthen their negotiating position with departments in the run up the autumn Spending Review. At that point, the Chancellor could decide to revise his plans upwards, and spare local government, justice, and other departments from further cuts – and to make more available to areas such as schools and hospitals. But equally, he may decide that he isn’t willing to countenance further tax rises or higher borrowing. These final decisions will be made later this year. As things stand though, for many public services, the first half of the 2020s could feel quite a lot like the first half of the 2010s.