disease and cure in the uk: the fiscal impact of the crisis and the policy response

© Institute for Fiscal Studies

Disease and cure in the UK: The fiscal impact of the crisis and the policy response

Slides prepared by Carl Emmerson for SOLACENovember 2010http://www.ifs.org.uk/projects/346

Conclusions

• Permanent hit to public finances from financial crisis estimated at £86 billion a year (in today’s terms)

• Response is a £98 billion fiscal tightening by 2015–16, comprising a £24 billion tax rise and a £74 billion spending cut (in today’s terms)– OBR estimates 60% chance of hitting fiscal mandate on current policies

• Overall post crisis tax and benefit reforms regressive across most of the income distribution, although very focussed on richest 2%– cuts to welfare payments for working-age individuals

• Four years from next April will be the tightest sustained squeeze to public service spending since April 1976 to March 1980– total DELs cut by 11% in real terms– overseas aid budget increased sharply– in England: NHS and schools relatively protected; largest cuts to:

Communities and Local Government, DEFRA and BIS• Would be sensible to review plans in 2012


Disease

• Outlook for the public finances dramatically weakened since Budget 2008

• Much of deterioration expected to be impervious to economic recovery– ‘structural’ rather than ‘cyclical’ increase in borrowing

• Forecasting borrowing difficult– estimates of the size of the structural hole have changed over time– latest (June 2010) forecasts are slightly worse than the forecast made before

the general election (March 2010)



2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

2016

–17

2017

–180

2

4

6

8

10

12Extra cyclicalExtra structuralBudget 2008

Per

cent

age

of n

atio

nal i

ncom

e

Permanent

damage =

5.8% of GDP

(£86bn)

Note: Author’s calculations comparing HM Treasury June 2010 Budget with HM Treasury March 2010 Budget.

Disease: size of the problem


Disease: change over time

PBR 2008 Budget 2009 PBR 2009 Budget March 2010

Budget June 2010

0

1

2

3

4

5

6

7

8£47bn £94bn £86bn £78bn £86bn

Per

cent

age

of n

atio

nal i

ncom

e

Sources: HM Treasury; IFS calculations.

Cure

• Labour (March 2010 Budget)– no fiscal tightening in 2010–11 (although economy would have to deal with

the removal of the fiscal stimulus that was in place in 2009–10)– six year fiscal consolidation starting in April 2011– composition of cure in 2014–15: 70% spending cuts, 30% tax rises– no detail of additional measures for 2015–16 and 2016–17

• New Government– fiscal tightening to start this year– aim to fill the hole in 2014–15, further tightening in 2015–16 to build some

caution into the plans– overall package in 2014–15: 73% spending cuts and 27% tax rises



Fiscal tightening: Labour’s plans

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

2016

–17-2

-1

0

1

2

3

4

5

6

7

8UnknownTax increasesOther spending cutsInvestment cutsBenefit cuts

Per

cent

age

of n

atio

nal i

ncom

e


70%

30%


Fiscal tightening: additional measures

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

2016

–17-2

-1

0

1

2

3

4

5

6

7

8Additional tax increasesAdditional spending cutsTax increasesOther spending cutsInvestment cutsBenefit cuts

Per

cent

age

of n

atio

nal i

ncom

e


22%

78%


Fiscal tightening: coalition plan

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

2016

–17-2

-1

0

1

2

3

4

5

6

7

8

Tax increasesOther spending cutsInvestment cutsBenefit cuts

Per

cent

age

of n

atio

nal i

ncom

e


27%

73%

Differences in cure (2014–15)

• Overall tightening: new Government to tighten by more

• Composition of tightening– mix between tax and spending very similar to March 2010 Budget plan– sharper fall in borrowing leads to greater reduction in debt interest spending– similar £bn cut to investment spending (both very deep)– significant welfare cuts announced since election (not known whether Labour

would have done this)– bigger £bn tax rises, and deeper £bn cut to non-investment spending, than

implied by the March 2010 Budget plan


Composition of the tightening in 2014–15


£ billion (nominal) March 2010 Budget

October 2010 Spending Review

Tax 21.5 29.8Spending 50.9 80.5

Investment spending 17.2 17.0Current spending 33.7 63.5Of which:

Debt interest 7 10Benefits –0.3 17.7Public services 27.0 35.7

Total tightening (£bn) 72.4 110.3% Spending 70 73% Tax 30 27

Latest forecasts

• Measures forecast to offset increase in underlying borrowing seen Budget 2008– deficit to return to pre-crisis levels in 2015–16

• Measures also to return debt to a sustainable path– but constant borrowing beyond 2015–16 would see not debt return to pre-

crisis levels until late 2020s– if no further tax rises / spending cuts to offset costs of ageing population then

debt still sustainable, but may not return to below 40% of national income

• Significant uncertainty remains– if latest forecasts are as accurate as previous ones then 60% chance of

meeting the Government’s fiscal mandate on current policies– 40% chance that further tax rises or deeper spending cuts required


Cure: borrowing back to pre-crisis levels


2007

–08

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

2016

–17

2017

–18

0

2

4

6

8

10

12 Budget 2008Budget June 2010 – no policy changeBudget June 2010

Per

cent

age

of n

atio

nal i

ncom

e

Sources: Author’s calculations using all Budgets and Pre-Budget Reports since March 2008 (all available at http://www.hm-

treasury.gov.uk/).

Cure: debt sustainable but not back to pre-crisis levels for a generation


1974

–75

1977

–78

1980

–81

1983

–84

1986

–87

1989

–90

1992

–93

1995

–96

1998

–99

2001

–02

2004

–05

2007

–08

2010

–11

2013

–14

2016

–17

2019

–20

2022

–23

2025

–26

2028

–29

2031

–32

2034

–35

2037

–38

2040

–41

0

40

80

120

160

200Budget 2008Budget June 2010 – no policy actionBudget June 2010Budget June 2010 – including impact of demographic pressures

Per

cent

age

of n

atio

nal i

ncom

e

Source: Author’s calculations based on the March 2008 and June 2010 Budget.

Meeting the fiscal mandate?


09–10 10–11 11–12 12–13 13–14 14–15 15–16-8

-6

-4

-2

0

2

4

6

Per

cent

age

of n

atio

nal i

ncom

e

60% chance of a surplus on the structural current budget under current policies

Source: Office for Budget Responsibility (

http://budgetresponsibility.independent.gov.uk/d/fan_charts_intervals.xls).

60% chance

of surplus

in 2015–16

http://budgetresponsibility.independent.gov.uk/d/fan_charts_intervals.xls

Tax & spend

• Crisis depressed tax revenues and increased public spending as a share of national income– tax revenues: lower financial sector profits, lower house and equity prices– public spending: public service spending set in cash terms for three years in

2007 and economy turned out much smaller than expected

• As a share of national income increase in spending greater than the fall in revenues– provides possible rationale for more of the policy response being on

spending than on tax– aim to return spending to slightly below, and revenues to slightly above, pre-

crisis levels


Cure: impact on tax and spending


1997

–98

1998

–99

1999

–200

0

2000

–01

2001

–02

2002

–03

2003

–04

2004

–05

2005

–06

2006

–07

2007

–08

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

2015

–16

30

35

40

45

50

55Spending – no policy changeRevenues – no policy change

Per

cent

age

of n

atio

nal i

ncom

e

Impact of tax rises and welfare cuts

• Measures reduce net incomes across the income distribution

• Impact regressive across most of the income distribution– with notable exception of the richest the losses are larger among low income

groups than among higher income groups

• Throughout the income distribution pensioners lose, on average, less than families with children


Cure: all in this together?


Impact of tax & benefit reforms to be in place by 2014–15, by income

Poorest

2 3 4 5 6 7 8 9 Richest

-£4,000

-£3,500

-£3,000

-£2,500

-£2,000

-£1,500

-£1,000

-£500

£0

-8%

-7%

-6%

-5%

-4%

-3%

-2%

-1%

0%

October 2010 Spending ReviewJune 2010 BudgetAnnounced by previous governmentTotal as a % of income (right axis)

Income decile group

Cha

nge

in n

et in

com

e

Cure: all in this together?


Impact of tax & benefit reforms to be in place by 2014–15, by family type

Poorest

2 3 4 5 6 7 8 9 Richest

-8%

-7%

-6%

-5%

-4%

-3%

-2%

-1%

0%

Families with childrenPensionersOthers

Income decile group

Cha

nge

in n

et in

com

e

Impact of cuts to spending on public services

• Total spending on public services to be cut in real terms for six years– since WW2 cuts have only been achieved for two consecutive years– deepest sustained cuts since April 1975 to March 1980

• Central government spending on public services (DELs)– to be cut as a share of national income back to the late 1990s levels– in real terms spending in 2014–15 to be 11.2% lower than in 2010–11 or 13%

below the level Labour planned for 2010–11


Cure: public service spending set for a squeeze


1950

–51

1955

–56

1960

–61

1965

–66

1970

–71

1975

–76

1980

–81

1985

–86

1990

–91

1995

–96

2000

–01

2005

–06

2010

–11

2015

–16-10

-5

0

5

10

15

Labour ConLib Historic 6 year moving average

Ann

ual p

erce

ntag

e re

al in

crea

se

Note: Figure shows total public spending less spending on welfare benefits and debt

interest.

DELs: The grand old Duke of York?


1998

–99

1999

–200

0

2000

–01

2001

–02

2002

–03

2003

–04

2004

–05

2005

–06

2006

–07

2007

–08

2008

–09

2009

–10

2010

–11

2011

–12

2012

–13

2013

–14

2014

–15

10

15

20

25

30October 2010 Spending Review

March 2010 Budget

Per

cent

age

of n

atio

nal i

ncom

e

Note: Figure shows Departmental Expenditure Limits (DELs) as a share of national income under current policies.

DELs: deep cuts coming


2010–11 2011–12 2012–13 2013–14 2014–1580

85

90

95

100

105March 2010 BudgetOctober 2010 Spending Review

Inde

x: L

abou

r 201

0–11

= 1

00

–11%

–10%

– 13%

Sharing the pain

• Two winners?– spending on international aid and energy & climate change

• Relative protection for NHS and schools?– tightest settlement for NHS spending since early 1950s– schools spending per pupil to fall in all but most deprived schools

• Several losers?– Home office, Justice, Local Government and Department for Business,

Innovation and Skills all face cuts of around one-quarter– latter primarily comes from deep cuts to taxpayer support for higher

education teaching • One big loser?

– DCLG communities budget to be cut by two-thirds, with capital budgets cut by three-quarters: public investment in new social housing the big loser


‘Winners’

Average DEL cut

Education

Defence

NHS (England)

Work and pensions

Energy and climate change

International development

-20 -10 0 10 20 30 40

-11.2

-10.8

-7.3

0.3

1.4

16.2

34.2

Real budget increase 2011–12 to 2014–15


Note: Figures show real change in total (resource + capital) DEL

‘Losers’

CLG CommunitiesEnvironment, food and rural affairs

Business, innovation and skillsCLG Local government

JusticeHome office

Culture, media and sportTransport

Average DEL cut

-80 -70 -60 -50 -40 -30 -20 -10 0

-67.6-30.9-28.5-26.8-25.3-25.2

-21.1-14.6

-11.2

Real budget increase 2011–12 to 2014–15


Note: Figures show real change in total (resource + capital) DEL


English schools spending• DfE to receive total real-terms cut in DEL of 10.8%• Schools spending including pupil premium to grow by 0.1% per

year in real-terms (or 0.4% in total)– but total pupil numbers to increase by average of 0.7% per year– total schools spending per pupil to be cut in real-terms by 0.6% per

year (total of 2¼%)• Assuming flat-rate pupil premium of £2,400 (stated total cost £2.5

billion) and underlying funding per pupil frozen in cash-terms– 60% of primary school pupils in schools where real funding falls– 87% of secondary school pupils in schools where real funding falls– 43% of pupils in (less deprived) schools would see cuts of 5% or more– 1 in 8 pupils in (very deprived) schools would see increase of 5% or

more

Note: Assumes all schools experience the same growth in pupil numbers.

Record breakers?

• Real increase over next 4 years– total spending: tightest since World War II– spending on public services: tightest since April 1975 to March 1980– NHS: tightest since April 1951 to March 1956– (ODA: greatest since Jan 2002 to Dec 2006)


Conclusions

• Permanent hit to public finances from financial crisis estimated at £86 billion a year (in today’s terms)

• Response is a £98 billion fiscal tightening by 2015–16, comprising a £24 billion tax rise and a £74 billion spending cut (in today’s terms)– OBR estimates 60% chance of hitting fiscal mandate on current policies

• Overall post crisis tax and benefit reforms regressive across most of the income distribution, although very focussed on richest 2%– cuts to welfare payments for working-age individuals

• Four years from next April will be the tightest sustained squeeze to public service spending since April 1976 to March 1980– total DELs cut by 11% in real terms– overseas aid budget increased sharply– in England: NHS and schools relatively protected; largest cuts to:

Communities and Local Government, DEFRA and BIS• Would be sensible to review plans in 2012



Disease and cure in the UK: The fiscal impact of the crisis and the policy response

Slides prepared by Carl Emmerson for SOLACENovember 2010http://www.ifs.org.uk/projects/346

disease and cure in the uk: the fiscal impact of the crisis and the policy response

Documents

fiscal studies disease

fiscal mandate

fiscal impact

fiscal stimulus

fiscal studies permanentdamage

budgetno fiscal tightening

year fiscal consolidation

spending cuts