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Labour must find a path to responsible spending with flexible fiscal rules

By 2030, government will need £142bn more a year just to maintain current public service levels. This is not the time for fiscal orthodoxy.

By Rosie Fogden

Pressures on the public purse are only increasing. The pandemic pushed up government debt and the cost of servicing that debt is rising. Public services are crumbling after 13 years of underinvestment, and an ageing population is bringing new challenges to our health and care systems. Now the war in the Middle East will only accentuate calls for greater investment in our defensive capabilities.

Yet politicians on both sides of the spectrum, trapped by political and electoral pressures, are unable to acknowledge this. None are prepared to admit taxes will need to rise to support higher spending. In the past week, Rishi Sunak and Jeremy Hunt have instead trailed possible tax cuts after the Conservatives’ devastating by-election defeats in Tamworth and Mid Bedfordshire. 

The Centre for Progressive Policy’s (CPP) new report, “Funding fair growth”, is a reality check. Our modelling suggests that the next government will need to spend £142bn more per year by 2030 just to maintain current levels of public services in the context of an ageing population and other cost pressures. This is equivalent to a 1.56 per cent real increase in public spending each year, which in historical terms is a modest figure. But it demonstrates that freezing public spending is not a realistic option unless you are comfortable with major cuts to public services – which few politicians should be, given growing public demand for improvements. While tax receipts are also forecast to increase, they will not match the required spending increase: if we want to reduce the deficit and put the public finances on a more sustainable path, the overall tax take will need to rise, not fall.

[See also: The economists’ growth symposium – arbitrary fiscal rules aren’t working]

Labour claims it wants to get our economy on to a more productive, sustainable and equitable footing in the long run, but to do this targeted additional spending will be required. Its mission for fair growth is right, but it won’t be achieved by a back-door return to austerity or by wishful thinking. Rewiring our economic system will require investment as well as reform. CPP is calling for a £19bn-a-year package of public investment over the next parliament to be targeted on areas proved to have an impact on broad-based productivity growth, such as public health, early years and skills and training improvements that will allow British workers to benefit from the net zero transition.  

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To keep our recommendations grounded, we worked with the Centre for Deliberative Research to convene a citizens’ jury to discuss the policy options for funding the future of the UK’s public services. The jury’s views on the different ways forward were nuanced, but the message was clear: people wanted public services to be fixed and wanted to see more power handed to local places to help drive growth.

While 86 per cent of the jury agreed that government should raise taxes to fund public services, they also wanted government spending decisions to be scrutinised and the Treasury to be held accountable. The Liz Truss experiment has shown the cost of snubbing fiscal institutions, so Labour’s reticence to make unfunded spending announcements is understandable. But there is a route to higher public investment while maintaining fiscal credibility and working towards more sustainable public spending.

Reforming the UK’s fiscal rules is central to this. There is a glimmer of hope from Labour on this as the shadow chancellor Rachel Reeves has indicated an appetite for borrowing to invest in long-term growth. In our report, CPP argues that rigid rules should not get in the way of sensible investments which will raise the UK’s growth and productivity prospects, such as high-speed rail and other major transport, digital and energy connectivity projects. Instead, fiscal rules should support fair and sustained economic growth, an idea that has gained traction with economists such as Jim O’Neill and Andy Haldane. We suggest a framework that enables investment in projects with long-term returns and that does not exacerbate inequalities between places and income groups. This framework could help Labour go further to deliver fair growth in government while maintaining fiscal discipline in both the short and longer term.  

[See also: It’s Rachel Reeves’s party now]

We know that growth “from the bottom up and middle out”, in Keir Starmer’s phrasing, will not happen without strong and effective local government. Labour has made promising noises on devolution but has yet to develop its plan in greater detail. Shoring up beleaguered local government finances must be the first priority; to that end we recommend handing 2 per cent of income tax to local places to drive growth across the UK. We also suggest reforming the UK tax system to ensure that income from work is not treated less favourably than income from wealth – something that Reeves seems reluctant to commit to, promising not to raise tax on capital gains.

Whoever wins the next election will quickly learn that they will need to spend more money just to get the same public services outcomes. More importantly, they must recognise the need to rebuild the productive capacity of our economy. Labour has an opportunity to make sure that the rules it sets to maintain credibility work to achieve that goal, and not derail it.

See here for the full report from the Centre for Progressive Policy.

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