This article is more than 8 years old

Spending Review: there may be trouble ahead

Martin McQuillan looks at the Chancellor's plan for spending over the next five years and the potential pitfalls that might be on the horizon. As any university finance director knows, the further the prediction made, the greater the risk of disruption to the plan.
This article is more than 8 years old

Martin McQuillan is a former Deputy Vice-Chancellor (Research and Innovation) at Kingston University, London.

Many deans and university finance directors will have had a twinge of sympathy with Chancellor George Osborne on Wednesday as he announced the outcome of the latest spending review. As veterans of budget-setting and forecasting they will know well that the further out a financial plan goes, the more speculative it becomes.

Like Stalin, rather than Mao, they tend to work on the basis of five-year plans, but few are certain about anything other than the first two or three years of a forecast. Financial plans have to be constantly rewritten when they come into contact with the real world.

The dark arts of budget-setting often have more to do with narrative coherence than they do with sound accounting. A finance director will often envisage growth in student numbers towards the end of a financial period in order to allow their vice chancellor to spend money on a pet project today. A dean will frequently paint a rosy picture of success in the final years of a budget in order to soften the requirement to cut early on, and no one is beyond using the mysteries of capital depreciation rules to inflate the bottom line to satisfy a nervous board of governors. George Osborne might then be able to pull the wool over the eyes of Fleet Street headline writers with his unexpectedly generous spending review but university managers ought to know better.

Changes since July in the financial forecast by the Office of Budgetary Responsibility gave the Chancellor an additional £27bn to spread around in his spending review, allowing him to curb its sharper edges. These figures have surprised many when the fundamental economic data suggests no such largesse ought to be possible. Given that this bonus income is due to appear in the later, more speculative, years of the financial plan, it might be prudent to examine where it is going to come from.

The additional funds are in part the result of the government, ironically and spectacularly, failing to meet its own immigration targets and having many more tax paying (not benefit claiming) immigrants in the country than expected. They are also in part the result of helpful forward advice from the Bank of England monetary policy committee on when they intend to dispose of assets as part of the Quantitative Easing programme. Interest rates and the cost of government borrowing may well stay low but that would be a sign of a faltering economy not a growing one, however, the prospects for a successful QE sell-off are far from certain. One might even say that at this point they are merely theoretical.

There are other asset-disposals factored into the Treasury’s plans, including the proposed sale of the student loan book. This is now expected to start in 2016-17 and it is hoped will raise £12bn by 2020. The problems with selling the post-Browne income contingent loan book are well documented. However, the sale has has been a declared intention since 2013 and continues to be included in the OBR’s projection of income for the Treasury. Should the sale fail to materialise, again, this on its own leaves a permanent hole in the Chancellor’s plans. Perhaps, it is for this reason more than any other that George Osborne has decided to retrospectively change the terms for all lenders since 2012 with the plan of reducing the rate of non-repayment from its current 45% to a future 30%, making the loan purchase more attractive to private investors.

However, the main reason why the OBR’s predictions now chime so readily with George Osborne’s plans is because he provided the OBR with their financial assumptions in the first place. As Emran Mian, Director of the Social Market Foundation (and former secretary to the Browne Review) notes in his response to the spending review, the OBR constructs its forecast on the basis of policies confirmed privately to it by the Government, even though the Government may depart from that policy in the future. The Government’s policy intentions communicated in private to the OBR do not necessarily have to coincide with anything as problematic as, say, their own manifesto commitments. On this basis it is almost impossible for the Chancellor’s forecast and the OBR’s predictions not to coincide.

However, in the last parliament the difference between the policy ambitions of the Coalition and what it did in practice were at variance to the tune of £5bn per year. Over the life of a fixed-term parliament that is almost all of George Osborne’s additional revenues right there. The OBR is not so much an independent watchdog as a house band for the Treasury. It is not that the OBR colludes with the Treasury over the figures; it is just that they are the Treasury’s figures to begin with. If the Office of Budgetary Responsibility is supposed to be an independent body correcting the Treasury’s homework, they are doing so using an answer book provided by the Chancellor.

Mr. Osborne’s work has been greatly helped by the Bank of England MPC, the OBR and the Labour front bench’s early embrace of the pantomime season. However, there are lots of good reasons to be concerned that these forecasts will have to be significantly revised in the future. The early years of the plan will see the Chancellor break his own self-imposed benefits cap and twice have to seek the approval of parliament to breach the fiscal charter he put in place only last month as a trap for the opposition. John McDonnell would have done better last Wednesday by throwing a different type of book at George Osborne, pointing out to him the ways in which the spending review uncannily echoes Labour’s own election manifesto, which the Institute for Fiscal Studies said would deliver an additional £30bn worth of revenue for Whitehall departments. The Conservatives at the time warned against Labour’s unfunded promises and irresponsible spending. The Tories, in contrast, were offering £7bn of tax cuts, whatever happened to those?

If the Chancellor has to revise his plans it is likely to be on the basis of further fiscal consolidation, not economic expansion. It is therefore an odd choice that he should look to ease public spending cuts at this stage of a parliament. Surely, he would be better off, politically speaking, by getting the pain out of the way early on and look to ease off towards the next election. It will be much more difficult to turn the taps of austerity back on, having given every one the impression that you have just mended the plumbing. It will be hard to pin the blame for that on Gordon Brown.

The higher education sector might be breathing a sigh of relief this week, telling itself that things could have been much worse given the prior trailing of 30 to 40% cuts to the Business, Innovation and Skills budget. However, the spend on universities in the next five years is merely the story of Osbornenomics in miniature. The headline figure looks less awful than expected but that relative equanimity is being paid for by some tight squeezes on those with the slenderest shoulders, disguised in a fog of speculative arithmetic.

The good news of real terms protection for science and research, and a postgraduate loan book is off-set by the evisceration of widening participation funds and the conversion of student bursaries to loans. According to the government’s own impact assessment, 45% of all students starting since 2012 have been in receipt of a full bursary (425,000 in total) and 15% in receipt of a partial bursary (140,000). While the sticker price of £9,000 tuition fees does not seem to have affected participation rates, this new change to student finance is untested and has no good historical precedent. Further, training bursaries for nurses are also to be turned to loans. The average salary for nurses outside of London, £23,000 per year, barely limps over the income contingent repayment threshold.

In his analysis of the Chancellor’s retrospective changes to student finance elsewhere on Wonkhe, Andrew McGettigan demonstrates the new inequalities that are being built into the system of what we must now call ‘policy contingent loans’. As a result of these changes some students from poorer backgrounds will now pay more than £10,000 extra for their higher education. This is indefensible and brings the entire funding system into disrepute. Sage voices have been warning about this for several years and the task of opposing it should not be outsourced to money saving expert Martin Lewis. The sector owns the problem of the credibility of the loans system and must do all that it can to restore it.

The Chancellor and universities are not out of the austerity woods yet. Should the government’s economic strategy continue to provide the low rates of growth and the depressed salaries that it has up until now, then all of these plans will need to be looked at again mid-term. Unexpected revisions and impairments in Whitehall spending tend to rebound on a department’s stakeholders, in the case of BIS that means universities. As any canny Finance Director knows there are only so many times you can move the arithmetic goalposts before you have to face reality. When dealing with a reluctant vice chancellor and staff willing to live in denial, the trick is knowing when to face that inconvenient truth.

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