ICAEW chart of the week: fiscal changes

Chart: Fiscal methodology changes and error corrections. £23.6bn 2018-19 deficit before changes, £41.4bn changes after changes.

The public sector finances were subjected this week to some big methodology changes by the Office for National Statistics (ONS), as illustrated by the #icaewchartoftheweek.

At the same time, the ONS took the opportunity to fix some errors in the reported fiscal numbers, including a correction of £2.6bn in 2018-19 relating to double counting by HMRC within corporation tax revenues. This is an error that turns out to have been occurring for the last 7 years, raising questions over the quality of controls over fiscal reporting within government.

There were also a number of other revisions to the numbers amounting to £1.5bn, increasing the reported deficit for 2018-19 from £23.6bn to £27.7bn before methodology changes.

The treatment of student loans in the fiscal measures has been misleading for many years, and the ONS have finally dealt with the ‘fiscal illusion’ this created (as the OBR describes such flaws in the National Accounts).

The new treatment increases the deficit in 2018-19 by £12.4bn, with a charge of £8.6bn for loans that are never expected to be recovered (just under half of the total loans extended in the year), the removal of £2.3bn in interest on student loans also not expected to be collected, and £1.5bn from the loss experienced on the sale of part of the student loan portfolio during last year.

The treatment of pension funds has changed too, with a £1.3bn increase in the deficit relating to how the Pension Protection Fund and local authority and other public sector pension funds are recorded.

Overall, the fiscal deficit for 2018-19 has been increased to £41.4bn, a 75% increase in the headline number from that previously reported.

Not shown in the chart is the effect on public sector net debt. This was not affected by the student loans change, but was reduced at 31 March 2019 from £1,802bn to £1,773bn as a consequence of eliminating £29bn owed to local authority and other pension funds, without reflecting the associated liability to public sector employees. We disagree with this elimination, which we think understates the headline measure for the national debt.

Despite this, the overall effect of these changes is to improve the reporting of the public finances. A positive step forward, even if there remains a long way to go.

Further information:

– UK public sector finances, 24 September 2019 (ONS)

– Commentary on the public sector finances (OBR)

ICAEW Fiscal Insight: Spending Round 2019

Cover photo with link to a pdf - ICAEW Fiscal Insight on the Spending Round 2019: an end to austerity?

Fiscal Insight – Spending Round 2019

On 4 September 2019, the Chancellor of the Exchequer announced the UK Government’s plans for departmental spending in 2020-21 in the Spending Round 2019.

This ICAEW Fiscal Insight analyses the effect of this announcement on the public finances and what this means for public services. Headlines include:

Planned departmental spending of £434.2bn in 2020-21

Departmental current spending up by £13.8bn or 4.1% to £352.3bn
Departmental capital spending up by £3.9bn or 5.0% to £81.9bn
This is £13.4bn more than set out in the March 2019 Spring Statement

Increases in current spending

£4.1bn for health, including £3.9bn for NHS England
£2.2bn for education, including £1.8bn for schools and £400m for further education
£1.3bn for law & order, including £750m for more police
£1.0bn for social care, with the prospect of a further £0.5bn from council tax precepts

Increases in capital investment

£2.2bn for transport, including HS2, Network Rail and Highways England
£1.9bn for international development

Effect on the public finances

Total managed expenditure in 2020-21 of £878.6bn, 2.4% more than this year
With student loan accounting change deficit is £46.2bn or 2.0% of GDP
Economic forecasts not refreshed, updating them would likely increase the deficit further
The government is likely to breach its fiscal targets for 2020-21

An end to austerity?

All departments’ current budgets will increase by at least inflation
Welfare spending is still being cut
The Spending Round is for one year only

The Spending Round marks a turning point for spending on public services, with all departmental budgets increasing by inflation at the very least. This is a significant change after a decade of cuts in most department budgets.

Click here to read the ICAEW Fiscal Insight on the Spending Round 2019.

ICAEW chart of the week: a trillion dollar deficit

Chart: A trillion dollar deficit. Revenue $3.6tn, Spending $4.6tn.

The #ICAEWchartoftheweek this week is on the US federal government budget. This is forecast by the Congressional Budget Office (CBO) to end the current financial year this month at just under a trillion dollars in deficit, with the budget shortfall in the year ended 30 September 2020 projected to exceed a trillion dollars for the first time.

Revenue in 2020 is expected to amount to $3,620bn. The largest contributions are from federal income taxes of $1,800bn and payroll taxes of $1,281bn, followed by a modest $245bn from corporate taxes and $294bn in other revenues.

This is projected to be $1,008bn less than planned spending by the federal government in 2020 of $4,628bn. Social security is expected to cost $1,097bn, while spending on Medicare, Medicaid and other health programmes are expected to cost $1,163bn net of receipts. Income security (welfare) programmes are expected to cost $302bn, while the balance of mandatory expenditure includes spending on military veterans and federal civilian and military retirement plans.

Discretionary spending of $1,400bn comprises $737bn on defense and $663bn on everything else apart from interest. This includes elementary and secondary education, housing assistance, international affairs, and the administration of justice, as well as outlays for highways and other programmes. Net interest is expected to cost $390bn.

The shortfall in revenues compared with spending will be funded by borrowing, with federal external debt expected to increase from $16.7tn to $17.8tn at the end of September 2020.

Federal revenues and spending are estimated to amount to 16.4% and 21.0% of GDP respectively in 2020, with the deficit equivalent to 4.6% of GDP. The CBO projects that the average federal deficit between 2020 to 2029 will be 4.7% of GDP, significantly higher than the 2.9% average over the last fifty years, resulting in federal debt growing from 79% of GDP in 2019 to 95% of GDP over the coming decade.

Of course, the federal budget does not give the full picture for the public finances in the US, with most state governments choosing (or being legally required) to run budget surpluses.

As with many developed economies, the public finances in the US are under increasing pressure with an increasingly long-lived population driving higher costs for social security, health and social care. With lower levels of economic growth (albeit currently much higher than in the UK or Europe) and a growing level of debt, there are concerns about the resilience of the US public finances if there were to be an economic downturn or another financial crisis in the medium term.

As summer turns into fall, it may be that a turn in economic seasons is on the way too. After all, winter is coming.

The full Congressional Budget Office report is available on cbo.gov.

ICAEW chart of the week: Spending Round 2019: an ‘end to austerity’?

Spending Round 2019 £330.8bn + inflation £6.1bn + reclass £1.6bn + increases £13.8bn = £352.3bn

On 4 September 2019, the Chancellor of the Exchequer announced the UK Government’s plans for departmental spending for the next financial year, 2020-21; as illustrated by the #ICAEWchartoftheweek.

This was unusual, as the announcement was not accompanied by a Budget setting out how those plans would be funded, nor by updated economic forecasts to indicate the expected effect on the overall public finances. This is also the second year running that the three-year Spending Review has been delayed and replaced by a one-year plan.

The primary announcement was for an increase of £13.8bn in departmental current spending in the next financial year (2020-21), a 4.1% real-terms increase over the current financial year. This was £11.7bn more than had been previously included in public finance forecasts and increases ‘Resource DEL excluding depreciation’ to £352.3bn.

There is an extra £4.1bn for health, £1.0bn for social care, £2.2bn for education, £1.3bn for law & order, £0.7bn for defence and security, £0.6bn for devolved administrations, and £1.3bn in other increases. The latter includes £0.4bn for transport, £0.2bn for the Nuclear Decommissioning Authority, £0.1bn for international development, £0.1bn for the next census, £0.1bn for the Department for Work & Pensions, £68m for air quality, biodiversity and animal health, £54m to tackle homelessness, and £46bn for the Birmingham Commonwealth Games.

The Chancellor also announced that departmental capital spending would increase by £3.9bn or 5.0% in real terms. This is £1.7bn more than had previously been announced and increases ‘Capital DEL’ to £81.9bn. There is £2.2bn for transport infrastructure (including HS2, other rail projects and road building), £1.9bn in additional international development investment, £0.5bn for the defence equipment programme, and £0.5bn for Scotland, Wales and Northern Ireland, partially offset by £1.2bn in lower reserves and other changes.

Although department current spending is expected to rise by 4.1%, and capital spending by 5.0%, the overall increase in total managed expenditure in 2020-21 is a 2.4% rise to £865.2bn, with annually managed expenditure (‘AME’) relatively flat in real-terms. With the cost of pensions rising ahead of inflation, this implies further cuts in the welfare budget, and so this may not be the full ‘end to austerity’ claimed by the Chancellor.

The uncertain economic outlook also causes concern. A recession, whether or not induced by Brexit, could have adverse consequences for the public finances, raising the worrying prospect of a return to austerity in the three-year Spending Review now scheduled for next year.

ICAEW chart of the week: Schools budget up £14bn, or is it £1.2bn?

English schools budget 2020-21 +£2.6bn, 2021-22 +£4.8bn, 2022-23 +£7.1bn

The Prime Minister’s announcement of a ‘£14bn package’ of more money was welcome news for English schools as they prepare to re-open their doors after the summer holidays.

Unfortunately, as is common with government announcements, there is a tendency to add several years together to give a bigger headline, exacerbated this time by the inclusion of inflation to make the headline even bigger!

In reality the announcement is a lot less exciting, as illustrated by the #ICAEWchartoftheweek. The announced increase in the 5-16 schools’ budget in three years’ time of £7.1bn (from £45.1bn in 2019-20 to £52.2bn in 2022-23) turns out to be £3.6bn, or an average of £1.2bn a year after taking account of inflation and the expected growth in the number of school pupils of around 2% over that time.

This is still very good news for schools trying to manage within constrained budgets, but (as the IFS and others have reported) the increase will still be insufficient to restore real-terms per pupil funding to the levels seen before the financial crisis. A 12% increase in pupil numbers since 2009-10 has seen budgets squeezed as funding has been constrained to inflation-only increases for most of the last decade.

Ironically, the Chancellor wasn’t able to take advantage of the same trick in his announcement the following day of £400m for further education and sixth forms, despite the fact that this was proportionately a bigger increase. The announcement was only for one year, so he couldn’t add multiple years together to create a bigger headline, and HM Treasury no doubt held the line about not adding in inflation.

Either way, these announcements are indication of how the fiscal approach is changing after a decade of austerity and struggling public services. This week’s Spending Review will give us a few more clues about the direction of public spending, although if (as rumoured) the Budget is postponed then we may not find out what the plans for taxes and borrowing to fund these increases until the Spring.

Fiscal risks report

Last week, the OBR published their second fiscal risks report – 294 pages of detailed economic analysis on risks to the UK public finances.

I am assuming that you will have read it all by now, but on the off-chance you haven’t, can I point you to this (much briefer) ICAEW summary instead?

As I say in the summary:

“The OBR highlights the continuing vulnerability of the UK public finances to economic headwinds and policy risks. Both revenue and spending are under increasing pressure as the population grows older and productivity stubbornly refuses to improve.

The report stresses the short-term risks to the public finances arising from Brexit or a potential global recession, with the ‘mild’ no-deal scenario presented by the OBR suggesting a significant hit to the public finances in the order of £30bn a year, before considering potential policy responses that could cost even more.

Perhaps more concerning is the OBR’s observation that austerity fatigue is leading to a fiscal loosening and less ambitious objectives for the management of the public finances. With the public finances already on an unsustainable path in the longer-term, the temptation to defer necessary decisions even further into the future appears to be proving too difficult to resist.”

https://www.icaew.com/-/media/corporate/files/about-icaew/policy/fiscal-risks-report-2019.ashx?la=en

ICAEW chart of the week: A rush of capital spending in March

Our #ICAEWchartoftheweek this time is on the subject of public sector net investment. This is the government’s preferred measure of capital spending, including much needed investment in the UK’s economic and social infrastructure.

Over the years, the process for delivering capital expenditure in the public sector in the UK has had a pretty bad reputation.

The anecdote goes that the first quarter is spent arguing about budgets, in the second everyone goes on holiday, and it is only in the third quarter that programmes finally get up and running, before everything stops for the Christmas break. The final quarter is then a mad rush to spend the remaining budget before the end of the financial year.

Unfortunately, there does appear to be some support for this conjecture when we take a look at the actual numbers.

According to the provisional financial results for the year released last week, around 41% of public sector net investment in 2018-19 was incurred in the last quarter. £8.2bn or 19% was reported in the last month alone!

Brexit has been an added complication in this particular financial year, with the government’s no-deal preparations in the run up to the end of March involving additional capital spending. Despite this, March was the peak month last year, as it has been over the years.

This is a stubbornly consistent feature of the public finances in the UK, even after numerous attempts within government to improve capital budgeting and delivery processes. For example, departments are now able to carry over some of their capital budgets to future years, which in theory should reduce the incentive to spend every last penny of their allocation in-year. In practice, a great deal of activity seems to take place in March, while April and May appear to be much quieter.

Of course, it is possible that our concerns about the quality of government’s investment delivery process are not fully justified. There could after all be some very good reasons as to why the winter months are the best time for carrying out public capital works!