The recent British election was, by most accounts, a “service-delivery” vote. Appalled at the state of their public services, Britons opted for new management. And while they need no reminding of how bad things have become, the facts are still startling, with a recent report from the Institute of Government assessing that public services are in a worse state today than in 2010. Nor is the decline finished: all but general practice, hospitals and schools are currently on track for further decay between now and the end of the decade.
Reversing this trend will require money. Unfortunately, that situation may also be worse than we thought. We already know the Treasury is empty but what is only now becoming clear is the number of unfunded spending commitments which, while having been kept off the books by the previous government, will soon come due. In her speech today, Rachel Reeves is expected to hit this point home, announcing that the previous Conservative government left a black hole in the public finances. She estimates that the bills for compensation to tainted-blood and post office victims, promises to boost defence spending, public-sector pay awards, and other such invoices inherited by Labour amount to around £20 billion — though they could run as high as £50 billion.
However, the new Labour Party came into office having promised not to raise taxes nor alter the outgoing government’s borrowing limits. Instead, it hopes to generate the revenue needed to revive public services by raising the growth rate of the economy. Hope is the key word here. The cyclical recovery of the British economy, along with the positive mood music associated with the incoming government, will probably lift economic activity somewhat this year, affording the government a bit more breathing room. Reflecting this optimism, the IMF recently upgraded its forecast for the British economy this year, with private forecasters similarly more upbeat.
Still, it’s not much to get excited about. The IMF upgrade is in the order of a mere 0.2% of GDP, which works out to a few billion pounds of added output, some of which will make it into the state’s coffers in the form of tax. That won’t do much to improve the government’s fiscal position. If it’s to give a substantial lift to the country’s economic growth rate, the Government will need to find a way to raise the economy’s level of investment, which is the lowest in the G7 (a group whose investment performance has itself been declining for decades). Foreign direct investment in the UK is currently sitting at a 12-year low.
There are some measures the Government can take to stimulate investment without much spending, much of which it’s already committed to: tax reform, encouraging private-pension consolidation to make it easier for funds to invest in a wider range of assets, changes to the planning system, and improving its trade relations with Europe. The return of policy predictability and political stability after the chaos of the last eight years should also go a long way towards encouraging businesses to start looking to the long term again.
Nevertheless, for private investment to take off, there will almost certainly need to be more public investment in the infrastructure which facilitates economic activity — everything from roads and railways to research and development. Because if the state’s current account looks bad, its capital stock is even worse.
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