Like its author, shadow chancellor Oliver Letwin, the Conservative party’s Medium Term Expenditure Strategy is notable for its modesty. There are no specific promises of tax cuts – indeed Mr Letwin confesses that he ‘cannot be certain’ they will be possible at all. The strategy is at pains to stress its commitment to ‘high levels of growth in spending on hospitals and schools’. And gone is the Tories’ past flirtation with an arbitrary 35 percent target for government spending. Instead, the MTES promises only a modest drop by two percentage points – less even than was achieved during the early years of the present government.
The MTES represents an impressive attempt by Mr Letwin to shed his party’s slash and burn reputation. His caution aims to convince the electorate that we can have it all – strong public services, with lower spending and tax cuts. But he has nevertheless sets up a clear choice for the forthcoming election – higher spending, investment and support for the neediest under Labour, or smaller government under the Tories. The task for Labour is to show that the Tories cannot both have their cake and eat it.
The apparent caution of the MTES masks an underlying small government agenda. Even on health and education, which the Conservatives appear to have accepted are politically untouchable, the objective of the Tory approach is to shift away from state provision and funding. And on pensions and welfare, the targeted approach adopted by the current government would be abandoned, redirecting support away from the worst off and towards the relatively wealthy. Judging from Gordon Brown’s 2004 Budget, Labour is already geared up to exploit the weaknesses in the Tory strategy.
Overview of the MTES
The MTES was launched by Oliver Letwin on 16 February 2004. It proposes to cut government spending from 41.9 percent of national income in 2005/06 to 39.9 percent over five year period, a drop of £23 billion in today’s money. The Tories aim to do this while still achieving substantial increases in health and education spending and maintaining expenditure on pensions in real terms. The main source of the required savings would be reductions in other departmental spending. Other sources would include cutting administration costs in government and reducing the size of the welfare bill.
The MTES is not the final word on the Tories’ spending plans. An updated MTES will be published in December 2004, taking account of announcements by chancellor Gordon Brown in last month’s Budget and the forthcoming Spending Review. Alongside the updated MTES, Mr Letwin will publish a Medium Term Fiscal Strategy. This will explain how the Conservatives plan to reduce levels of government borrowing and, crucially, will spell out their plans for taxation.
There are five main components to the MTES:
* Running government – Reduce the cost of running government by £3.4 billion a year by instituting a civil service recruitment freeze, reducing the overall number of civil servants by 20 percent from 500,000 to 400,000.
* NHS and schools – Increase spending on health and education by 4 percent above the trend rate of GDP growth during the first two years. Thereafter, the rate of growth would gradually be brought in line with the trend rate of GDP growth.
* Pensions – Progressively eliminate means testing by raising the basic state pension more quickly than means-tested benefits. The additional cost would be partly offset by the lower cost of providing means-tested benefits, while the remainder would be funded by the abolition of the New Deal.
* Other welfare payments -Assumes that the cost of other welfare payments (i.e. benefits and tax credits) can be reduced, but does not explain how, other than to state that the Conservatives remain committed to welfare reform. Further announcements are expected on this.
* Other departmental expenditure – Other departments would have a spending freeze for the first two years, followed by a 2% rise for the next three years. These increases would be in absolute rather than real terms, meaning that departments would have to cut expenditure in real terms during the first two years, and would then have a real terms spending freeze.
Area of spending
How much difference would the MTES make by 2011/12?
Running government
-£7.2 billion
-0.6% of GDP
Health and education
+£14.2 billion
+1.3% of GDP
Pensions
£0.0billion
0.0% of GDP
Other welfare payments
-£5.3 billion
-0.5% of GDP
Other departmental spending
-£24.7 billion
-2.2% of GDP
TOTAL
-£23.0 billion
-2.1% of GDP
Source: Institute for Fiscal Studies
The cost of running government
The component of the Tory expenditure strategy where the party’s small government agenda is most evident is their proposal to reduce the cost of running government by £7.2 billion after five years. Introducing the expenditure strategy, Shadow Chancellor Oliver Letwin even remarked that Samuel Pepys once ran the navy almost single-handed. Mr Letwin’s own proposals are not quite that radical. But there are still unanswered questions about how they could be implemented without forcing unacceptable reductions in the quality of public services.
One particular challenge for Mr Letwin is that Gordon Brown has already neutralised the most valid Tory criticisms on government waste. The government’s Efficiency Review, conducted by Sir Peter Gershon, has already identified the main savings that can be easily achieved on government administration costs. If the Tories are elected next year, they will find that the money has already been committed.
However, Mr Letwin has cleverly avoided making his spending plans dependent on such savings. Instead, the Tories have pledged to reduce costs through a civil service recruitment freeze. But this too presents difficulties. A recruitment freeze would make it harder to retain the best civil servants, because it would limit promotion opportunities, prompting high flyers to leave for careers in the private sector. It could also endanger essential services if a number of key civil servants in a particular unit all left in close succession. Although it would be possible to fill essential positions through the internal redeployment of staff, it would take longer than normal to eliminate such bottlenecks.
The challenge for Labour in responding to these proposals is that the Tory characterisation of civil servants as ‘paper pushers’, ‘bureaucrats’ and ‘interferers’ resonates with the public. This is further complicated by Labour’s own civil service cuts, which suggest that the Tories have a point.
The danger is that this mud will stick unless Labour can demonstrate that civil servants are actually essential to the delivery of key public services. For example, how can you deliver tax credits targeted at the neediest unless you have adequate staff to administer the system? What’s the point of hiring more teachers unless you also employ enough payroll staff to make sure they get their salaries on time? And why recruit more nurses and doctors unless you also have staff to procure the equipment they need to save patients’ lives?
The key difference between Labour’s efficiency programme and the Tory recruitment freeze is that the Tory programme is entirely arbitrary, whereas Labour’s plans are based on a rational assessment of how services can be delivered more efficiently but to the same high standard.
The NHS and schools
One of the reasons why the Tories have resisted promising large reductions in public spending and tax is that they are held back by their pledges on health and education. This shows how far Labour has reshaped the debate on public services. The Tories do not believe they can win an election unless they not only match but exceed current levels of spending on the NHS and schools.
But this additional money would not pay for improvements to existing public services. Instead, the money would fund the Conservatives’ contentious passport proposals – vouchers by any other name.
The patients’ passport proposal in particular would carry with it a substantial deadweight cost – in other words, a significant amount of public money would be required to subsidise existing levels of private sector treatment even before a single additional patient had decided to take advantage of the passport. This money would be diverted away from existing health services and towards people who can already afford private treatment.
Moreover, the prospect of the patients’ passport being self-financing is remote. The Conservatives argue that by encouraging privately funded treatment, the passport will save the NHS money. But a report into subsidies for private medical insurance, published by the Institute for Fiscal Studies in 2001, concluded that such subsidies were unlikely to be self-financing, both because of the deadweight cost of providing the subsidy, and the fact that demand for private healthcare is relatively unresponsive to changes in price. These arguments are likely to be applicable to the patients’ passport as well.
On education, the Tories also have a problem. In the Budget, the Chancellor announced plans to increase the capital modernisation budget for the education system to £8.1 billion by 2008. This creates a clear choice between Labour education plans that will benefit everyone, with every secondary school being refurbished or rebuilt by 2015, and Tory plans that would funnel money into an expensive pupils’ passport scheme.
The Tories have also asked David James to identify savings in health and education administration costs alongside the introduction of their reforms. This is likely to be a challenging task. One of the advantages of the current taxpayer funding mechanism is its relative administrative efficiency. Tory passport proposals would carry with them substantial additional administration costs, as new mechanisms would have to be developed for handling vouchers.
Pensions and welfare
At first sight, Conservative proposals on pensions should appeal to Labour voters. The Tories are proposing to restore the link between pensions and earnings, eventually floating all pensioners off means testing. But in reality, this is not as attractive as it first seems. One of the consequences will be an end to means-tested support for pensioners – instead of directing support at pensioners on low incomes, the Conservatives would provide identical levels of support to every pensioner, from the richest to the poorest.
Furthermore, the Conservatives have pledged to ensure that these proposals are revenue neutral by funding the increased cost of pension provision through the abolition of the New Deal. In short, the Conservatives plan to take money away from the unemployed in order to pay more to wealthier pensioners.
This is an area of policy that will require continuing scrutiny. The Conservatives have yet to publish their other plans for welfare reform. But the MTES indicates that they are looking for substantial savings – £5.3 billion a year after five years. While we do not yet know how they will achieve this, it is clear that the Conservatives intend to target the most vulnerable in society.
Other departmental spending
In the Budget, the chancellor pointedly promised to increase spending on defence, home affairs, transport and a host of other policy areas. In doing so, he was throwing down a challenge to Oliver Letwin, who has demanded real terms expenditure cuts from his shadow cabinet colleagues in all these policy areas.
The potential impact of this expenditure strategy on the credibility of the Conservatives in the run-up to the election extends to almost every area of policy. If the Tories attempt to attack Labour on crime, ministers will simply demand to know how the Tories would do better while cutting spending on police. Tory criticisms of kit shortages for troops in Iraq ring hollow as long as Labour is pledged to spend more on defence than the Conservatives. And Tory attacks on the state of our transport infrastructure and levels of congestion are not credible if the Conservatives plan to spend less and to oppose measures such as congestion charging that raise revenue while tackling the root problem.
The budget means that the electorate will be presented with a clear choice. Will voters really be tempted to cut spending on such politically sensitive areas as defence, home affairs and transport, in exchange for at best modest tax cuts under the Tories?
Will the Tories cut tax?
The big question mark in the MTES relates to tax cuts. The Conservatives have made it clear that this is an ambition, but at the same time, they have placed heavy emphasis on fiscal responsibility and maintaining spending on key public services. If, as they claim, the government’s current budget deficit is structural rather than cyclical, that will make their task harder, because they have pledged to eliminate any structural deficit before instituting tax cuts. According to an analysis by the Institute for Fiscal Studies, the Conservatives ‘would probably only have scope to stabilise the tax burden at the level [they] inherited.’
Some of the answers to these questions will be revealed in December, when a Medium Term Fiscal Strategy is published alongside the updated MTES.
Conclusion
At first sight, the Conservatives’ spending strategy is a model of moderation. But the reality is that it presents the electorate with a clear choice between stronger public services under Labour and a drive towards small government under the Tories. Within this, there are further choices for voters. Do we want to risk the delivery of public services by imposing an arbitrary freeze on civil service recruitment, or do we want a more rational approach to efficiency savings? Do we want to subsidise people who already pay for private healthcare and education, or do we want to invest in improved services for everyone? Do we want to cut support for the unemployed in order to pay for support to wealthier pensioners, or do we want to target pensions and welfare at those who need it most? And do we want cuts in defence, home affairs and transport, or do we want to continue investing in our soldiers, police, railways and roads?
These Conservative spending plans attempt to convince the electorate that it is possible to avoid tough choices, and that spending on public services can be financed from a seemingly bottomless pot marked ‘efficiency savings’. The task for Labour as the next general election approaches is to expose this confidence trick, and to demonstrate to the electorate that it is us rather than the Tories who share their priorities.