Patrick Nolan

Some commentators have argued that the right way to reduce the deficit is to take on large scale tax avoidance rather than public spending. The argument goes that large companies are shirking their responsibilities, while families and small businesses carry the burden of rescuing the public finances.  Yet the evidence on who is actually avoiding tax does not support this. For example, HMRC data show that three-quarters of the £40 billion tax gap (the difference between the amount collected and the amount that should be collected) is due to VAT, Income Tax, National Insurance and Capital Gains Tax. Reducing the tax gap not only requires a focus on the big end of town but on the activities of many families and small to medium enterprises.

Last week, Reform published its 2011 scorecard of the coalition government’s public service reform programme. Yesterday, Thomas Cawston explained how the coalition can get NHS reforms back on track. Today, Patrick Nolan, Chief Economist at Reform, discusses why the government’s welfare reforms scraped through with a pass. The government’s welfare reforms are significant. The 2010 Emergency Budget and Spending Review announced cuts of £18 billion to benefits, so the DWP had to respond with a radical agenda. The Work Programme aims to incentivise providers to deliver better outcomes from welfare to work services and the Universal Credit promises to create a simpler system where “work always pays.

In today’s spending review, George Osborne was absolutely right to hold the line on eliminating the structural deficit within one parliamentary term. In the Emergency Budget released earlier this year the coalition won fiscal credibility (and breathing space from international financial markets) by setting that goal. Failing to follow through on this goal at the first sign of difficulty would have damaged the government’s credibility and reputation in the eyes of international markets.   The Chancellor was also absolutely right to highlight the need for public service reform and to look to the welfare budget to provide some large and early savings.

Next week’s spending review will involve hard decisions. Hundreds of thousands of jobs will go. People in work will find employment conditions less generous with, for example, greater contributions required for their pensions. People out of work will find benefits provide less assistance and be under greater pressure to return to work. Goods in shops will be more expensive, with the basic VAT rate going up, some new schools will no longer be built, more hospitals will be under pressure to close and students will face higher tuition fees.   These changes are necessary but are just the start. To get the deficit under control in this Parliament, much more will be needed than this. A good place for further attention would be middle class welfare.

This is the next of our posts with Reform looking ahead to the Spending Review. Earlier posts were on health, education, the first hundred days, welfare, the Civil Service, international experiences (New Zealand, Canada, Ireland) and Hon Ruth Richardson’s recent speech. Last night the BBC showed 12 major regional television debates examining impending cuts to public sector spending. I spoke at the debates in London and the East of England (held in Ipswich). There were interesting similarities and differences in the two debates and these illustrated some important lessons for the spending review. Both debates showed that there is still work to do to explain to the public, and some commentators, the case for eliminating the deficit in one Parliamentary term.

This is the latest of our posts with Reform looking ahead to the Spending Review. The first six posts were on health, education, the coalition’s first hundred days, welfare, the Civil Service, and the New Zealand and Canadian experiences. Ireland As Colm McCarthy, Chair of Irish Special Group on Public Service Numbers and Expenditure, noted at a recent Reform conference the macroeconomic downturn in Ireland has been more severe than in almost any other European country: -- The budget deficit, excluding the Exchequer cost of the banking collapse, went from near zero in 2007 to 11.5 per cent of GDP in the current year, despite fiscal cutbacks which began in July 2008.

This is the latest of our posts with Reform looking ahead to the Spending Review. The first six posts were on health, education, the coalition’s first hundred days, welfare, the Civil Service, and the New Zealand experience. Canada In a forward to Reform’s alternative 2010 Budget, Rt Hon Paul Martin, Canadian Finance Minister from 1993 to 2002 and Prime Minister from 2003 to 2006, noted that when a new Liberal government was elected in Canada at the end of November 1993 the deficit and debt-to-GDP ratios were, with the sole exception of Italy, by far the worst of the G7. In 1998, just 4 years later, Canada’s deficit was no more, the debt ratio was dropping like a stone and the financial record was second to none.

This is the latest of our posts with Reform looking ahead to the Spending Review. The first five posts were on health, education, the coalition’s first hundred days, welfare and the Civil Service. International examples of public finance rescue missions Other countries can provide important lessons on what does, and what does not, work in devising a plan to bring government spending down. Several countries have undertaken major programmes of reform that have set out to restore fiscal credibility and improve the quality of their public services. Examples include New Zealand, Canada and Ireland. Reform has drawn on the experiences of senior figures from these countries, and lessons from the New Zealand experience are discussed below.

This is the fourth of our posts with Reform looking ahead to the Spending Review. The first three posts were on health, education, and the first hundred days. What is the budget? The welfare budget must be at the heart of the debate on how to restore the public finances. The Government spends more on welfare than anything else. In 2009 the bill for social protection was around £199 billion. This has almost doubled in real terms over the last 20 years from £104 billion in 1989. Social protection now represents 32.5 percent of all government expenditure or 14.2 per cent of GDP. Some welfare spending varies with economic conditions, with increasing unemployment, for example, leading to greater expenditure on assistance to support people back into work.

So, Iain Duncan Smith has set out proposals to comprehensively reform of the welfare system. The goal is to replace 51 benefits with a single and flexible allowance. It has been claimed that this reform would allow people with jobs to retain more of their benefits and ensure that people who work will always be better off than people on benefits.   There are problems with Iain Duncan Smith’s proposals. Fiscal cost is one, and the Work and Pensions Secretary has already clashed with George Osborne over the price of these proposals. Lowering taper rates to make work more rewarding could mean that more people receive more generous assistance – meaning costs go up.

Among the biggest of challenges facing the new government is the need to make welfare more affordable while continuing to support people in need. There is a strong case for lowering the welfare bill. At around £200 billion the government spends more on welfare than anything else. Spending on pension benefits alone is £77 billion and forecast to grow to £240 billion (in today’s money) by 2050. As George Osborne has noted if the welfare bill is not cut then eliminating the deficit will mean that cuts to other departmental budgets will have to be much deeper. But some of the most important reasons for welfare reform are non-financial.

The new and independent Office for Budget Responsibility estimated that interest payments on public debt are set to rise to £67 billion a year by 2014-15. The hole in the public finances is so deep that every cut in spending that can be made should be made. Few commentators have grasped that tinkering around the edges, such as with “efficiency gains,” will not be enough. The only way to eliminate the deficit and to begin the task of repaying public debt is through making deep cuts in spending and for people to take more responsibility for themselves.   Cuts must start with welfare. The UK government spends more on welfare than on anything else.

While it is widely accepted that the costs of family breakdown are significant, there is less agreement on policy options to support families. Pete Hoskin set out arguments against a simplistic subsidy approach earlier today. Putting together ideas that work is made even harder by the catastrophic state of the government’s books. New policies should provide real value for money and be (at least) revenue neutral. In our latest report, Reform identified a set of cost-effective reforms to one area of support for new families – maternity and paternity pay and leave – which is currently underperforming. This system of support receives surprisingly little attention, although it currently costs taxpayers around £2 billion every year.