Tina is heading our way

by Mike Denham, former chairman


She’s never welcome, but Tina
, or the point where politicians are finally forced to accept that there is no alternative, is heading back our way. The combination of Rachel Reeves’ disastrous tax-borrow-and-spend budget, longer-term fiscal numbers that have never added up, and a sell-off in global bond markets, makes her return inevitable.

We know Tina of old. She’s the one who drops by when profligate governments run out of fiscal road, and she’s the one who insists on politicians actually taking the tough decisions they generally only talk about.

Her most spectacular visit to us was when the big spending Callaghan government was forced to implement crisis cuts in the 1970s (the sharpest year-on-year spending cuts in post-War history). But she’s visited again several times since then, as when David Cameron was struggling with the fiscal mess left by the last Labour government. Widely lambasted for imposing public spending “austerity” he explained, "If there was another way I would take it. But there is no alternative”.

So, what’s Tina saying now?

First, that public spending is far too high, and its continuing upward trajectory is wholly unsustainable. Since the turn of the millennium, it’s soared from 35 per cent of GDP to its current 45 per cent – the biggest increase of any G7 member. On top of that, when the Office for Budget Responsibility updated their long-term fiscal projections last September, they said that on unchanged policies spending is set to consume half of our GDP by mid-century and go on increasing at an accelerating rate thereafter.

Even that is now likely to be an underestimate because October’s budget recklessly ramped up spending by a further £370 billion (through to 2029-30), equivalent to lifting the OBR’s long-term baseline by another two per cent of GDP.

Second, we’ve reached the end of the road in terms of funding extra spending with either yet more taxes or yet more borrowing. Reeves may have decided to fund half her additional spending with further tax rises, but as we can already see, in increasing the tax burden beyond anything the British economy has ever sustained outside of wartime, she has whacked private sector employment and investment. Confidence has taken a significant hit and there are fears that falling activity could reduce the tax take in real terms. A budget for growth it most certainly wasn’t.

As for her increase in borrowing, the bond markets have already jacked up gilt yields by around one-half per cent. That may not sound too much, but if sustained it would increase annual borrowing costs by around £15 billion.

Worryingly, Tina reckons borrowing costs could well increase further. Because we aren’t the only country with an already heavily indebted government still borrowing heavily. Across the OECD, government debt is well over 100 per cent of GDP, up by two-thirds since the turn of the millennium. And although annual borrowing has eased from its covid peak, it’s still two-thirds higher than over the five years pre-covid. The days of seemingly permanent low interest rates are well and truly over, and the government's annual debt interest bill is already over £100 billion.

That’s the annoying thing about Tina – she’s forever pointing out inconvenient truths, such as the world doesn’t owe us a living, and we must live within our means. And right now, she’s pointing out that our fiscal situation is in some crucial respects even worse than that inherited by Cameron in 2010.  As a percentage of GDP, debt is now around 100 per cent rather than 70 per cent, and ongoing interest costs are 50 per cent higher. Also, gilt yields (the cost of new borrowing) are significantly higher.

According to the OBR’s long-term projections, even to get Britain’s debt to GDP ratio back to 2010 levels would take a sustained reduction in the public sector primary deficit equivalent to over four per cent of GDP. Which in cash terms is around £120 billion annually. Retrenchment is unavoidable, and with debt mounting, the sooner we start the better.

Fortunately, although the government is floundering, Tina has a plan. And it’s a plan that offers at least a glimmer of hope to hard-pressed taxpayers.~

Because she’s insistent that the bulk of the necessary retrenchment must come through spending cuts rather than tax increases. She points to a raft of evidence that addressing a fiscal crisis via tax increases is far more damaging to the economy than doing it via spending cuts.

There are several reasons for that, but the most important is that tax increases tend to undermine business confidence and investment – just as we’re seeing now – whereas spending cuts boost confidence by demonstrating a government’s political resolve in tackling the fundamental problem of overspending (see for example this IMF paper). And by cutting public spending, governments are shifting economic resources out of the wealth consuming public sector into the wealth producing private sector, lifting long-term growth prospects.

So, what to cut?

Tina’s very much in favour of efficiency drives, such as President Trump’s department of government efficiency (DOGE). Public sector organisations the world over are notoriously inefficient, and ours is worse than many – on our own recent estimate it wastes around £200 billion annually relative to the world’s best.

But broad-brush efficiency drives are not an alternative to taking tough decisions. Because experience shows that they tend to rearrange deckchairs more than they deliver sustainable savings. For example, the Blair government hired businessman Peter Gershon to root out government inefficiency, and he identified annual savings of £20 billion (equivalent to more like £50 billion today). Yet when the National Audit Office subsequently investigated the results, they discovered only around one-quarter of the total could actually be proved as genuine net savings – still worth having, but far from a complete solution.

Given our overwhelming need to boost per capita economic growth, Tina recommends focussing first on cuts to areas that do not contribute directly to that objective. Areas like foreign aid and culture subsidies are obvious targets, but the biggest and toughest target is welfare support.

Welfare support – or social protection as it’s officially labelled – now comprises around one-third of all public spending, and with an ageing population it’s set to become ever more. And its huge cost is not the only problem. Paying people not to work reduces the labour supply and thereby reduces economic growth potential. And right now there are 22 million people over the age of 16 who are economically inactive, including two million students and 13 million state pensioners. That’s around 40 per cent of those over 16.

Tina says the government must cut back on tax-funded support for most of these people, and she has plenty of suggestions. She’d increase the state pension age to at least 70, abolish the triple lock, and implement some version of the Dilnot proposals for funding long-term care. She’d considerably tighten the conditionality rules for out-of work benefits including those for sickness and disability. And she’d scale back all poverty related payments by adopting the OECD’s standard definition of poverty, which is 50 per cent of median income rather than the 60 per cent currently targeted.

Changes like that would not be easy, still less popular, but welfare is now such a big element of spending that cuts are unavoidable. And Tina’s back-of-envelope suggests her recommendations could deliver ballpark annual savings of around £50 billion.

Healthcare is the second biggest area of spending, comprising one-fifth of total spending, and, according to the OBR, set for the biggest future growth. Tina recommends that we break up our grossly inefficient nationalised healthcare industry and switch to a social insurance system like our European neighbours. Their systems deliver much better health outcomes, and although historically ours was cheaper, these days spending as a percentage of GDP is broadly in line. Their big advantage is that they reap the efficiency benefits that flow from a measure of choice, competition, and co-payment.  Adopting social insurance here would allow us to improve outcomes without pouring in ever larger amounts of taxpayers’ money.

More broadly, Tina notes that public sector pay and pension benefits are still higher than private sector equivalents. Last year median hourly earnings were 24 percent higher in the public compared to the private sector - and that was before Reeves’ inflation busting pay awards. With an annual pay bill close to £300 billion, freezing pay rates down to private sector levels and further reforming public sector pensions could potentially save further tens of billions.

And then there’s the fact that the public sector is forever overpaying for the things it buys - procurement - another huge area of potential savings.

But as Tina always says, there’s no shortage of ideas for spending cuts. What’s lacking is the political will to make tough decisions. Which of course is precisely why she has to keep returning to us.

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