Ed: This is second of Ian’s analysis of the Tory decade of austerity. His first article appeared last Monday.
The Conservative narrative in 2010 was that we had ‘maxed out on the credit card’. Public spending cuts seemed inevitable. Indeed the very fact that there have been big cuts while the deficit continued appears to confirm that they were unavoidable.
But could the cuts have been avoided by increasing tax revenue or a higher deficit? My previous article showed that, while the cuts were severe in the areas they affected, they were not large compared to total spending. The cuts in public services (excluding health) amounted to about £45.8bn out of £881.4bn which was about 5.2% of total public spending in 2019-20.
Higher tax revenue?
The £45.8bn cuts amounted to 2.1% of GDP. To have avoided these cuts tax revenues as a proportion of GDP would have had to have been around 39.5% of GDP instead of 37.4%.
Could this have been afforded? Would a 2.1% increase in the tax “burden” have hobbled the UK economy? Surely not as the UK would still be well below European levels of tax revenue. The Eurozone average is 46.4%, and many European countries (which are at least as economically successful as the UK) have higher levels, such as Germany (46.7%), France (52.6%), Denmark (53.0%) and Norway (57.7%) (OECD data).
A higher deficit?
The total cuts over the ten year period amounted to about £300bn (my estimate based on data from the Institute for Fiscal Studies). If all of this had been borrowed over the decade the deficit of 10.1% in 2010 would have fallen to about 4% in 2019, instead of the actual 1.9%, and the national debt would have increased to around 97.5% of GDP rather than 84.2%.
There would also have been an increase in debt interest which is difficult to estimate accurately as it depends on the type of debt. But based on increases in debt interest paid between 2009 and 2019, the additional interest would have been around £2.5bn a year, less than 0.2% of total public spending (my estimate based on Treasury data).
Tax revenue and the deficit could also have shouldered the burden together. Each would have risen by a correspondingly smaller amount – a tax revenue of around 38.5% and a deficit up to about 91%.
Austerity even without the cuts?
The real terms cuts, or the increased tax revenue and/or higher borrowing that could have avoided them, seem fairly small compared to the severity of austerity experienced by many. Was there more to austerity than simply the spending cuts?
As noted in my previous article, the cuts balanced some real terms increases in health, social protection and debt interest. But none of these increases were big and they were much lower than in previous decades. For example, real terms health spending increased from £73.5bn in 1999-00 to £139.2bn in 2009-10, an increase of £65.7bn, about 6% per year (Treasury data). In the last decade it increased from £139.2bn to £164.1bn a much lower increase of £24.9bn, about 1.5% per year.
This is reflected in the broad pattern of public spending in the last few decades. Real terms increases in total public spending averaged 3% (of GDP) per year from 1955 to 2010 yet only 0.3% from 2010-20, “the slowest of any decade on record” according to the IFS. Public spending increases for decades went hand-in-hand with a rising standard of living. This has almost ended.
The lack of significant real terms increases in spending as much as cuts in many public services seems to have contributed to the decade’s austerity.
A low growth problem
This hints at another reason for the painful decade – low economic growth. Growth from 2010-19 averaged 1.8% (only 1.5% from 2016 after the Brexit referendum) which the IFS describe as “anaemic”. It was only slightly higher than the 1.7% average growth in the 2000s which included the deep recession of 2008-09. By contrast average growth in the decade prior to the recession was 3.2% (1997-2006) and in the 1990s it was 2.3% (ONS).
Low economic growth meant maintaining real terms increases in spending would require increases in tax revenue as a proportion of GDP.
Another decade of austerity?
Post-Covid, do we face another decade of austerity? Since the beginning of the pandemic the deficit has shot up again to 12.7% of GDP (March to December 2020). Total borrowing in 2020-21 is likely to be well over £300bn and total debt has increased to 99.4% of GDP and is likely to go higher (ONS estimates, though there is uncertainty due to the exceptional circumstances).
There are parallels with the financial crisis of a decade ago. Again we see a big increase in the deficit due to higher unemployment and the need to support a sector in crisis – in this case the health service rather than the banks as in 2008-10. It seems we face at least 2-3 years of high unemployment and higher social security payments. A recession, lower tax revenues and little prospect of sustained economic growth does not bode well for public finances.
What would a repeat of last decade’s austerity mean? Cuts to non-health public services could be savage. As the IFS (p278) has said, “it is difficult to see how further savings could be found without severe consequences for the range and quality of service provision”. The two large areas of public spending, health and social protection, afforded some protection in the last decade, could also be in the firing line.
But all this will be very difficult politically. Real cuts to the health service will surely not be possible after the pandemic has taken it to the limit. And cuts to benefits in a time when so many people will be struggling financially, particularly the young, will similarly be difficult. This seems unlikely before the next election due in 2024.
The lesson of the last decade is that the cuts could have been avoided with a slightly higher deficit for a few years while gradually increasing tax revenue by a modest 1-2% of GDP (leaving it still well below the European average). Surely this indicates the only acceptable way forward for the coming decade.
Accumulated debt can currently be maintained at very low interest rates. There are of course valid questions about how much more debt can be sustained as well as a suitable level of tax revenue for a growing economy. These are subjects for another time.