SR2013: we ain’t seen nothing yet

When the chancellor stands up next week to deliver his one year Spending Review, it will beg a lot of questions about future expenditure cuts

With a week to go before the Spending Review is announced, reports indicate that the government is making progress towards the £11.5 billion in departmental spending cuts that it needs to keep its deficit reduction plan on course.

Yet the savings that need to be found in this spending review are just over a quarter of what will be needed in the three years from 2015-16 to 2017-18 if the government is to stick to its deficit reduction timetable.

New analysis from the Resolution Foundation indicates that to stay on track with deficit reduction, the government of the day will have to find a further £26 billion in cuts in the two years post-election. If this is to be found from departmental spending alone, then departmental budgets start to look unworkable. With health, school spending and international development all protected again, some departments are already considerably smaller than they were in 2010.

Further cuts to the tune of £26 billion would leave the Home Office and Ministry of Defence between a third and a half smaller than they were in 2010-11 and the Foreign Office two thirds smaller than it was seven years ago. At some level, a department’s budget becomes too small to function effectively.

If the pain cannot feasibly be shared out among departments, then there are three obvious alternatives. The first would be to alter the deficit reduction timetable. Without such a change, the other two options are to raise taxes or cut welfare spending.

Of course, raising taxes is always politically unpalatable, though, as the Institute for Fiscal Studies has pointed out, taxes have a habit of going up after elections. This takes us to further cuts to welfare spending. Our estimates suggest that a further £10 billion would need to be cut from welfare spending if cuts to departmental spending are to be kept to their current pace rather than accelerating after 2015-16.

Who would take the pain of another £10 billion welfare cut? Since 2010, working age households have felt far more of the pain from welfare cuts than older people. Support for working age households has fallen by 15 per cent and those without children have been hit the hardest. Pensioner households, on the other hand, have seen a 6 per cent increase in support in part due to the triple lock.

However, pressure for cuts to pensioner benefits is now mounting. Although relatively small ticket items such as the winter fuel allowance and free TV licenses are currently under attack, a debate is yet to open up about spending on pensioners more generally, even while more is cut from working age households.

Looking longer term, perhaps the most significant story that emerges from our analysis is the growth in spending on the NHS as a portion of public spending. By 2017-18, the portion of spending going to the NHS will have increased from a quarter of departmental spending to a third, assuming that the NHS continues to be protected and additional cuts all come from departmental spending not social security.

This is even before future cost inflation in health spending, and results from an historically stingy real terms freeze in spending on health coupled with deep cuts elsewhere. With an ageing population and constant improvements in medical science, it is difficult to see how spending on the NHS, long term care and pensions will not continue to rise, putting growing pressure on working-age welfare.

Hemmed in on all sides by these tough realities, both the government and opposition have suggested that welfare spending can be curbed in the future by addressing the structural causes of welfare, for example building more houses to reduce the housing benefit bill. But this is a long term strategy, if it works at all.

As things stand, today’s strategy and set of commitments are beginning to lead to implausible conclusions about the shape and level of public spending. Something will have to give.

This article originally appeared in Public Finance magazine