By Andrew Sentance, Senior Economic Adviser, PwC
Public spending is under pressure. Across the western world, and especially in Europe, governments are struggling to contain high levels of public spending and borrowing. According to the OECD, the UK government spent 49% of GDP in 2012, and across the euro area public spending totalled 49.4% of GDP. Demographic pressures and rising expectations of the level of provision in key areas like education and health are making the challenge of managing government spending and public services even more difficult.
In the case of the UK, the impact of disappointing growth on tax receipts now means that public borrowing is forecast to be £108bn in the last year of this Parliament – around 6% of GDP. This is around three times the forecast for government borrowing originally set out in the 2010 Budget when the Coalition Government launched its deficit reduction programme.
This is the background to the 2013 Spending Review, the results of which are due to be announced in the summer.
There is no easy way out through a strong rebound in economic growth or tax-raising. Most western economies have seen a slowdown in economic growth associated with the post-financial crisis ‘new normal’ world. And in an increasingly globalised world economy, raising taxes is not a solution either. Higher taxes on the income of companies and individuals will undermine competitiveness, and encourage economic activity to relocate. And higher taxes on consumers will intensify the squeeze that households are already feeling as a result of rising energy and food prices.
That leaves governments with only one option: reducing the burden of government expenditure. But how might this be achieved, in a world where demographic trends and public expectations are pushing in the opposite direction?
In the UK, we have already deployed some of the more obvious measures in the 80s and 90s – such as the privatisation and restructuring of state-owned industries. These policies were important contributors to deficit reduction in those decades. But new ideas will be needed to rethink and reshape government to meet the challenges of the 21st Century.
There is unlikely to be a single obvious and easy solution. The public sector in a mature western economy like the UK is a large and complex legacy business, which has been accumulating and developing its activities since the beginning of the 20th Century.
To meet the challenges of the 21st Century, there is likely to be a need to consider more radical options. First, government may need to withdraw from the provision of some public services altogether – leaving these to be provided by the private sector. Second, benefit and public service entitlements which are available for the better off members of society might have to be withdrawn so that public funds can be focused on the more needy. Third, government needs to improve its delivery model, so that public services are provided much more efficiently and effectively to those who need them.
This is a massive agenda for public sector restructuring and reform. But the benefit of embracing it is that government is freed up to deploy resources to invest for the future – in skills, technology and infrastructure. Governments which are encumbered by high debts and deficits do not have the flexibility to do this, as Britain found out to its peril in the late 70s and early 80s.
In the UK, we have probably only scratched the surface so far in terms of radical reform of the public sector. The 2013 Spending Review will give an indication of the government’s appetite for radical change. Or it might suggest that it is deferring difficult decisions until the next Parliament.
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