The state of public finances

The outlook for public spending

Throughout this decade, successive UK governments have strived to repair the damage to the public finances left by the global financial crisis. Through austerity measures, the deficit it left behind has reduced by three quarters since 2010, but years of borrowing have left the government with £1.8 trillion of debt.

While the Prime Minister has announced that austerity is over, public spending remains under pressure – not least because the UK’s economic growth forecasts are sluggish. In the medium term, government faces tough choices on spending priorities as it begins a fresh Spending Review. And in the long term, public services will not be financially sustainable unless the government takes forward plans to reform social care funding.

From economic recovery to economic uncertainty

In the wake of the 2008 global financial crisis, the UK entered its deepest recession since quarterly data was first published in 1955. Over the six years that followed, the economy returned to its pre-crisis level before showing some of the best growth levels among the major economies. However, when the date of the EU referendum was set in early 2016, the inevitable short-term uncertainty began to drive a slowdown in corporate investment.

In the immediate wake of the vote to leave the EU, economic indicators were mixed. But the immediate economic impact of the decision to leave the EU was not as negative as many feared and 2017 even saw the fastest upturn in UK consumer spending for a decade.

This summer saw some encouraging signs when the UK’s economy was estimated to have grown by 0.4 per cent in the three months to June, up from 0.2 per cent in the first quarter. As the Office for National Statistics (ONS) observed, sunnier weather and the World Cup are likely to have played a part in that growth by boosting consumer spending.

However, the underlying trend in the UK economy is that growth has slowed since the EU referendum and the economy seems likely to grow at a slower rate than the Euro area countries in 2019 for the third consecutive year. While the UK is expected to grow 1.6 per cent this year, the Eurozone is expected to grow by 2.4 per cent and the US by 2.9 per cent.

Deloitte’s CFO survey found big businesses particularly pessimistic over EU exit in summer 2018 when speculation of a ‘no deal’ departure peaked. Some 40 per cent said that they are scaling back their hiring plans and a third expected to reduce their capital expenditure over the next three years, up from a quarter in the previous survey. Ultimately, this is how businesses react to uncertainty – and short to midterm uncertainty is inherent at this stage of the EU exit process.

Austerity and the path of deficit elimination

The global financial crisis hit the UK’s public finances hard, creating a deficit that grew to a post-war record of £153 billion. In the five years that followed, the Conservative and Liberal Democrat coalition halved it by initiating a period of public sector austerity, and subsequent Conservative administrations have continued those austerity policies to bring the deficit down to £39.4 billion this summer. Measured on a day-to-day basis, the budget even showed a surplus in March 2017, meeting one of the government’s original 2010 deficit targets, albeit two years later than first planned.

Towards the summit of the debt mountain

When governments run a deficit, they fill the gap between their income and spending by borrowing and since the global financial crisis, the UK government’s debt has trebled to £1.78 trillion. That level of debt comes at a price: this year, the government will spend £41 billion on interest, which is significantly more than it spends on the police and criminal justice system. However, with the deficit under greater control, the summit of the debt mountain appears to be in sight - the OBR forecasts debt will peak at £1.82 trillion in 2019-20.

The government’s balance sheet

For the past eight years, the UK government has published the largest consolidated annual public sector accounts in the world, confirming its place as a world leader in financial reporting. This consolidation includes over 7,000 organisations and spans all of the UK public sector, including central government, local authorities, the devolved administrations, the NHS, academy schools and public corporations. Whole of Government Accounts (WGA) allow for a unique, accounts-based perspective on the state’s underlying financial health and sustainability.

Key findings in the latest WGA are:

  • Net liabilities – the difference between assets and liabilities – increased from £1.9 trillion to £2.4 trillion, mainly due to increases in pension liabilities as a result of pension scheme revaluations due to a change in discount rate.
  • Public sector salaries increased marginally from £149.6 billion to £151 billion even though the number of full time staff decreased by 55,160 over the timescale covered.
  • Total expenditure on public services increased from £720.8 billion in 2015-16 to £760.7 billion in 2016-17.

In his report on this year’s accounts, the National Audit Office’s Comptroller and Auditor General (C&AG) observed that WGA have become increasingly important to the UK’s public financial management and are referenced by national institutions in their commentaries on government finance. He went on to note that HM Treasury has continued to improve on their presentation to provide “better quality analysis of the cross government finances” that allow for “a more complete picture of the economic performance and position of the UK public sector”.

Commentary from the C&AG suggests that future accounts should look in more detail at the £195 billion the government spends on goods and services, which would deepen their usefulness and relevance in scrutinising the government’s public financial management.

The OBR also observes that provisions on the government’s balance sheet, including the costs of decommissioning the Sellafield nuclear site and for clinical negligence claims against the NHS, have the potential to become major pressures on the public purse. Those provisions – which are a way of accounting for future costs that are not certain to arise – currently stand at £322 billion.

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