This article aims to give Yorkshire Bylines readers an informed and accurate fix on what is good (and bad) in putting a budget together, via a review of recent blog posts by Simon Wren-Lewis, a retired professor of economics at Oxford University, and a former Treasury civil servant. He not only has strong academic credentials, but also experience of working within Whitehall. For over 10 years he has blogged on his Mainly Macro site where he has recently published a series of six posts analysing what he sees as being required in Rachel Reeves’ forthcoming budget.
The recent economic context
The UK economy has been very badly managed since 2010. (Arguably, the Conservative track record of mis-management dates back to the early 1980s but our focus here is on the last 14 years). Two major missteps have been austerity and Brexit, in consequence of which, economic growth has been sluggish (and has occasionally gone in reverse). Real incomes have marked time and, for some families, have gone backwards.
A most-concerning indicator of economic failure was published on 11 September, when the Darzi report on the state of the NHS described the service as being “in serious trouble”. Just about every other public service (education, local government, the justice system and prisons) is also close to collapse. This has been the unenviable inheritance of the Labour government post July’s general election.
Part of the poisoned chalice inherited by Labour is a budgetary position whereby national debt is perceived as being high, and the current budget as being in deficit. Once in office, Labour claims to have uncovered a hitherto unseen £22bn ‘black hole’ left by the outgoing Tory administration.
Labour leadership boxing themselves in
In their desperation to win over uncommitted voters and hitherto moderate Conservatives, Labour’s election campaign in the summer was at pains ‘not to frighten the horses’. The Labour manifesto promised not to raise income tax, National Insurance or VAT for a five-year period. It also stated: “the current budget must move into balance, so that day-to-day costs are met by revenues and debt must be falling as a share of the economy by the fifth year of the forecast”. This was effectively a promise to stick by the fiscal rules set by the Conservatives (and which the Tories themselves ‘gamed’ from time to time). At a stroke, the Labour leadership greatly limited their future room for manoeuvre.
Can improvements come from economic growth alone?
The new government claims that the financing of improvements in public services could come from economic growth fuelled by productivity increases. In principle this is a possibility, but is not a given. In some ways, it is Labour’s best hope if they have closed off their options of major tax increases. But Wren-Lewis also warns against the appearance of growth, that is actually caused either by inflation or by increases in the population. We need to make sure we are monitoring growth in output per head in constant monetary terms.
As there tends to be potentially more scope for productivity growth in the private and manufacturing sector than in public services, productivity gains need to be ‘shared across’ the workforce as a whole, for equity reasons – although this may cause private sector resentment. Without such ‘sharing across’, a payment gap arises and private sector earnings run ahead of those in the public sector. This has happened in the last 14 years, giving rise to resentment and a series of public sector workforce strikes, and consequential problems of recruitment and retention in public service employment.
What might be added here is the need for better capital investment and workforce development (staff training) which also underpin increases in productivity. Here again, the UK record has been woeful under the Conservatives. In 2022, investment (measured as Gross Domestic Fixed Capital Formation) stood at 18.34% of Gross Domestic Product (GDP) – much lower than most developed nations (compared to, say, France at 25.02%, Austria at 25.3% and Belgium at 23.9%). So the Starmer government is already starting from a low base.
How much do taxes have to rise to end public sector austerity?
Benchmarking the 2010 level of public services, when Labour left office, Wren-Lewis considers any regression from those levels as constituting his definition of austerity, citing examples such as the lengthening of NHS waiting lists, and the long delays within the justice system, with cases slow in coming to court.
Wren-Lewis anticipates a 10-year slog to get back to a 2010 level of service While some spending might be one-off on investment, Wren-Lewis contends that it makes sense to finance it via borrowing, but permanent increases in current expenditure will need to be financed by increased taxation.
Spending on health makes an illuminating case in point. Due to demographic changes (people living longer) and medical advances, spending on health is rising faster than GDP in all developed world economies. Hence health spending constitutes a rising percentage of GDP. In the UK, spending on health as a proportion of GDP rose from 5% in 1980 to 10% in 2010. To maintain the 2010 level of service required health spending to rise to 12% of GDP but, in fact, spending was flat from 2010 to 2019 (pre-pandemic). This has resulted in a deterioration in service, evidenced by, for example, lengthening waiting lists and poorer ambulance response times.
Austerity-free?
More widely, to be ‘austerity-free’, public social spending (excluding education) would have needed to be at around 25% of GDP in 2022. The actuality was 22.1%: nearly three percentage points short. To make up this gap requires extra spending of £70bn, more if we add in a portion for education. What makes matters worse is that Jeremy Hunt, as Chancellor of the Exchequer, had pencilled in cuts in projected spending in these areas. This would mean adding in a further 1.5% of GDP, currently resulting in a 4.5% shortfall of GDP in spending. To cover this, the ‘tax take’ would need to rise by over £100bn.
Hunt planned a tax take of 37% of GDP by 2028. However, to end austerity and return services to their 2010 levels will require taxation to be 41.5% of GDP. For comparison, this level would be in line with many other developed countries (e.g., France, Netherlands, Finland, Belgium).
Clearly, radical changes are called for (see my previous article ‘In Praise of Taxation’). Wren-Lewis does not expect all these changes to be achieved in one budget this October. He sees it as a long-term project, over two administrations. His advice to Labour is to “raise taxes sooner rather than later” but, sadly, as already noted above, Labour’s present taxation declarations have already effectively boxed it in.
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