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The council debt crisis is of the government’s own making

The abolition of the Audit Commission, and the squeeze on local authority budgets, has doubled the sector's liabilities.

By Jack Shaw

In the aftermath of the global financial crisis, rising national debt led intellectuals – particularly on the left – to theorise about the relationship between debt and economies. The late anthropologist David Graeber was critical of what he dubbed the rise of debtocracies, and the role that state actors played in using crises to legitimise policies of fiscal restraint, as the UK witnessed in 2010 under the coalition government. At the same time, heterodox economists in France, Italy and Spain began to question the legitimacy of indebtedness by conducting what they called “citizen debt audits”, and challenging the prevailing assumptions that spending restraint was necessary.

Debt has continued to animate policymakers in the UK – especially in times of crisis. And significant attention has been paid to the cardinal rule set by the government: reducing debt as a percentage of gross domestic product (GDP) over a five-year period. The Institute for Government (IfG) recently suggested that in order to nominally meet this rule, the government had pencilled in implausible spending restraints that would not survive contact with political reality. The Resolution Foundation think tank has been more direct, accusing the chancellor of announcing a “fiscal fiction” at the Budget in March.

Despite the preoccupation with debt, comparatively little interest has been shown in the accumulation of debt by local authorities – which is at roughly £100bn. A significant proportion of this debt has arisen by borrowing from the Treasury’s little-known Debt Management Office, which is responsible for overseeing the Public Works Loan Board.

The Debt Management Office has existed in various forms for more than two centuries, and is responsible for lending to local authorities for infrastructural investment. In 1826 it funded the creation of Trafalgar Square.

[Read more: Councillors give their verdict on 14 years of Conservative government]

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The Treasury sets its lending policy and the interest rates that authorities are charged, while the Debt Management Office manages the debt owed by authorities and approves their applications. Outside a small cadre of civil servants, knowledge of how it functions is limited. The Treasury has avoided scrutiny of its approach to borrowing and debt in part because it abolished the Audit Commission in 2012, outsourcing local-authority budget scrutiny to private firms. But the commission, according to the IfG, had “the power to bite the hand that created it” by publishing often-unwanted critiques of government policy.

The debt owed to the Treasury by authorities has a significant impact on their ability to function. Warrington Borough Council alone spends the equivalent to 22 per cent of its core spending power on its debt. Research suggests that 45 per cent of authorities’ debt is now the equivalent of £1,500 per resident – more than double a decade ago. In this context, policymakers should question whether the current approach to debt owed by local authorities is fit for purpose. For example, while ministers have accused authorities of recklessly borrowing, is it appropriate for the Treasury’s own Public Works Loan Board to lend £2bn to Woking Council, an authority with an annual budget of £15m?

The Treasury’s appraisal process has also been criticised for being too permissive, since it does not ask authorities for detail about why they are borrowing, or review their portfolios. The affordability of loans is decided upon unilaterally by authorities. As a result of this major imbalance in how the Treasury operates, questions have been raised over whether the Treasury is complicit in the dire financial position in which authorities now find themselves.

A second, and perhaps opposite, challenge levelled at the government is whether the borrowing regime is too punitive – or at least less generous than it should be. In 2020 – three years before Nottingham City Council issued a section 114 notice, declaring effective bankruptcy – the indebted authority campaigned for the government to reduce the interest rate it charges authorities. In theory, the Treasury sets the interest rate according to a methodology that ensures that rates are not lower than what it can borrow itself. But in practice, there are multiple reasons why it reduces the rate, including for authorities facing financial challenges or investing in house-building or local infrastructure. Until 2020 it reduced interest rates if authorities provided a three-year spending plan, what it dubbed a “Certainty Rate”. Should the Treasury go further and reduce the interest it charges authorities? Academics suggest that the “near-market interest” of the Public Works Loan Board, and the interest it generates for the Treasury, may be an incentive to avoid reform, with the Treasury acting as a lender at market rates, while it has cash available at the lower Bank of England base rate. And the government’s annual accounts appear to validate that, revealing that the Treasury made £2.6bn in interest from England’s local authorities. The geography of that debt will not be spread equally, but that’s on average £8m per authority, per year.

Given these serious questions – technocratic though they are – it is curious that the government has rejected a request from Thurrock Council to hold a public inquiry into why authorities are at risk of failure. Significant underinvestment in local authorities is a central issue, but the picture is far more complex. Contrary to the narrative of localised mismanagement that the government has perpetuated, what an inquiry might identify is a series of system-wide challenges either introduced or exacerbated by the government’s own borrowing regime, which has culminated in further dysfunction. It’s time to scrutinise the debt crisis emerging in local authorities, but be clear-headed about the government’s role in facilitating it.

[Read more: Council bankruptcy tracker]

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