Observations

The rapidly changing state

Date: 18 March 2013
Authors:

On Wednesday the government announced that the 2013 Spending Review will be published on 26 June. The Review is expected to cover spending decisions for 2015–16, though in the Autumn Statement the Chancellor pencilled in cuts stretching through to 2017–18. By that time, departmental spending will have been cut by nearly 19% in real terms since 2010–11, if current plans are followed. This is an unprecedented period both in terms of the scale of the consolidation and in terms of the extended period of year-on-year spending cuts. In this Observation, we look at a different aspect – what is happening to the composition of public spending. On current forecasts, public spending will take the same proportion of national income in 2017–18 as it did in 2003–04. But it will be being spent on quite different things.

Given forecasts from the Office for Budget Responsibility (OBR) for the size of the economy, total public spending is planned to fall from its peak of 47.4% of national income in 2009–10 to 39.5% by 2017–18. This is a dramatic fall, but historically it is the figure for 2009–10 which is unusual. Spending as a share of national income increased by 6.7 percentage points in just two years between 2007–08 and 2009–10, largely as a result of the loss to national income associated with the financial crisis and recession.

In fact, after eight years of austerity, spending as a share of national income is forecast to be back close to its long-run average, and at almost exactly the same level it was in 2003–04, about halfway through the last government’s period in office. However, while spending as a proportion of national income is forecast to be essentially the same in 2017–18 as it was in 2003–04, the composition of that spending will be very different. This is illustrated in Figure 1, which shows the proportion of total public spending accounted for by a number of large components of spending. Figure 1 also shows the level of spending in real terms. It is important to note that while spending as a share of national income is the same in these years, since the economy is forecast to be larger in 2017–18 than it was in 2003–04, real spending (in 2012–13 prices) in 2017–18 is planned to be £125 billion more than in 2003–04 – an increase of 22%.

The biggest difference between the two years is in spending on debt interest payments, which is forecast by the OBR to increase from £28.4 billion in 2003–04 to £62.0 billion in 2017–18. This is an increase in real spending of 118%, and would leave debt interest payments accounting for 4% more of total spending in 2017–18 than they did in 2003–04.

In addition, expenditures on health and on pensioner benefits are forecast to account for greater proportions of total spending in 2017–18 than they did in 2003–04, with real growth in spending of 36% and 37% respectively. These trends are driven by the policies of both the last government and the current one, which are in fact remarkably similar in many respects in terms of the relative priority given to different areas of spending. Whilst the last government increased spending across the board, it raised spending on health faster than spending on other public services. Whilst this government is responding to the very big deficit it inherited by cutting public service spending rather dramatically, it is protecting health spending. In both periods, health spending continued to rise as a proportion of the total. Both governments have also been relatively generous to pensioners. The last government raised means-tested benefits for pensioners rather rapidly. This one has largely protected pensioner benefits from the cuts inflicted on the rest of the social security budget.

Spending on non-pensioner benefits is also forecast to increase in real terms, by 14% from £79.4 billion to £90.5 billion, but to account for a slightly smaller proportion of total spending in 2017–18 than in 2003–04. This is actually one area where the spending priorities of the current government appear to differ from those of the previous government: spending on working-age benefits rose rapidly under the last government as a result of discretionary policy choices, whilst this government is making relatively large real cuts.

Spending on debt interest, social security benefits and health accounted for just over half of total public spending in 2003–04, but all bar £14 billion of the £125 billion increase in public spending is forecast to be accounted for by these components. Real spending on all other areas, including education, defence, public order and safety, and all other non-health public services, is forecast to increase on average by a fairly meagre 5% between 2003–04 and 2017–18, and to take up an ever smaller proportion of total public spending.

The government is currently making big choices about the shape of the state as well as about its size. On current plans, we are moving ever more rapidly towards a state focused on welfare and particularly on health and on pensions. As the population ages, this focus on health and pensions will become still more evident. However, whether spending a diminishing fraction of national income on other public services is a sustainable choice is an open question.

Figure 1: Proportion of total public spending accounted for by various components

Proportion of total public spending accounted for by various components

Note: Total public spending and debt interest spending in 2017–18 are forecasts from the OBR. Pensioner benefits forecast is the Department for Work and Pensions (DWP) forecast of DWP benefit expenditure directed at pensioners. Other social security forecast is the OBR forecast for total social security and tax credits less DWP benefit expenditure directed at pensioners. Health spending forecast assumes that real health spending in 2017–18 is equal to the 2010–11 level.

IFS public finance observations are generously supported by the Economic and Social Research Council (ESRC).