Five reasons why Redwood is wrong

John Redwood today writes that spending will continue to rise. He is wrong: public spending will be cut dramatically and will make up the bulk of deficit reduction.

John Redwood uses an article in today’s Times (£) to peddle the myth that far from cuts taking place, public spending is set to rise over the next five years. In an interesting piece for Conservative Home, the thoughtful Tim Montgomerie has taken Redwood and fellow outriders Dominic Lawson and Allister Heath to task for “making the Right look out-of-touch with the real world”. As well as getting his internal politics wrong, Redwood is also out to lunch on the economics.

1. Redwood uses the wrong inflation measure.

Redwood concludes that allowing for 2 per cent inflation each year:

“You still end up with a small increase in total current spending over the five years.”

The number is, of course, entirely arbitrary. CPI inflation is now 3.1% and RPIX is 4.6%. Adjusting for inflation, ippr’s Director Nick Pearce has shown:

“the figure for 2015/16 is actually £630.6 billion – a real terms cut of nearly £7 billion.”

“But that’s not the whole story. PSCE is divided into Annually Managed Expenditure and Departmental Expenditure Limits. The former covers things like social security benefits and debt interest payments; the latter is current spending on services like the NHS, schools and so on. In 2010/11, this spending on departmental services is £342.7 billion. By 2015/16, that figure is set to be £340 billion in cash terms and £301.4 billion in real terms – a real cut of over £40 billion.”

2. A better measure of public spending is as a proportion of GDP.

When the economy is growing and living standards are rising, why should spending on health, education and other public services not increase accordingly? If public sector salaries were capped at the inflation level, we would never see any rise in living standards for public sector workers. And as Montgomerie points out, “the rate of inflation in much of the public sector (not least defence) is higher than the average growth in prices.”

This is why the more common measure of public spending is as a percentage of GDP. The latest public expenditure figures are clear on this (Table B2): Public spending will fall from 47.7% of GDP in 2009-10 to 39.8% in 2015-16.

3. Tax will make a tiny contribution to deficit reduction.

Redwood claims that taxes will contribute 43 per cent of deficit reduction next year. This is true but by the end of the Parliament, the Treasury figures show that tax will have contributed a much smaller 26 per cent (falling to 23 per cent in 2015-16).

But this only tells part of the story. The Office of Budget Responsibility suggests that falling growth will mean that the net tax rises announced in the June Budget of £8.2 billion by 2015-16 (Budget Table 2.1) will actually deliver just £3.2 billion (Budget Table C12). This would mean that taxation would contribute much less than initially thought. Put another way, public spending is going to contribute the bulk of deficit reduction.

4. Public sector employment losses will be damaging

Redwood claims that as jobs are lost in the public sector, others will be created elsewhere. He suggests that “natural wastage” will reduce the human impact. The bad news is that the private sector recovery is showing little sign of picking up. The Federation of Small Businesses says today that “10.4 per cent of firms expect to decrease employment over the next three months as business confidence in future prospects and revenue growth weakened over the July to September period.” Meanwhile, fewer jobs means fewer opportunities for new entrants to the labour market and a bleak outlook for new graduates and school leavers. And, of course, a rising level of unemployment means more public spending has to be spent on jobless benefits.

5. Unemployment was stubbornly high during the 1980s

Redwood writes:

“From 1983 to 1989 employment rose strongly. This was a period when public spending as a proportion of national output fell from 42 per cent to 35 per cent owing to strong private sector growth.”

He neglects to mention that unemployment was over 3 million from March 1983 to May 1987. The employment rise was due to strong growth in 1984 and again in 1988 and 1989 as a result of the Lawson boom.

Thanks to Tony Dolphin for his help with this piece.

26 Responses to “Five reasons why Redwood is wrong”

  1. Chris Black

    I'm shocked it's only 5. RT leftfootfwd:
    Five reasons why Redwood is wrong //bit.ly/aPH06A

  2. Chris Black

    I'm shocked it's only 5. RT leftfootfwd:
    Five reasons why Redwood is wrong //bit.ly/aPH06A

  3. Chris Black

    I'm shocked it's only 5. RT @leftfootfwd: Five reasons why Redwood is wrong //bit.ly/aPH06A

  4. Tod Sullivan

    RT @leftfootfwd: Five reasons why Redwood is wrong //bit.ly/aPH06A

  5. Katie Spenceley

    RT @leftfootfwd: Five reasons why Redwood is wrong //bit.ly/aPH06A

  6. Katie Spenceley

    RT @leftfootfwd: Five reasons why Redwood is wrong //bit.ly/aPH06A

  7. Shamik Das

    Five reasons why Redwood is wrong: //bit.ly/aPH06A by @wdjstraw on @leftfootfwd

  8. James Dennis

    RT @leftfootfwd 5 reasons why Redwood is wrong //bit.ly/aPH06A > followed by a response from me.

  9. jdennis_99

    My response:
    1. Fair point. The spending revisions, even taking into account inflation (at its current, not target level) will result in a decrease in public spending.
    2. Completely flawed. Just because the economy is growing and living standards are rising does not automatically mean we have to increase public spending. The amount we are spending on public services should be measured by what we are trying to get out of them, not by what we’re trying to put in. Measure by outcomes, not by intentions.
    3. The prediction by the OBR is just that – a prediction. Another alternative prediction is that economic growth will actually pick up following restored confidence, and therefore tax revenues will rise.
    4. You are forgetting about entrepreneurship. People will not automatically seek direct employment, but choose to go down the self-employment route – exactly the kind of thing we need to encourage. This area of the economy is extremely dynamic and important, but highly fluid, and therefore difficult to measure by normal statistical methods.
    5. Granted, unemployment was high, but Redwood is not actually wrong. Unemployment did fall significantly during that period.

  10. Billy Blofeld

    Have you put these points to Redwood to defend / correct?

  11. Phil Taylor

    Will,

    Thank you for a laugh on a gloomy Monday. At point 4 you quote a FSB stat that “10.4 per cent of firms expect to decrease employment”. This means that 89.6% of firms expect to freeze or increase employment. I’d say that sounded pretty upbeat. BTW my statement is logically irrefutable. Just think about it for ten seconds!

  12. Grumpy Bearz

    RT @jdennis_99: RT @leftfootfwd, //bit.ly/aPH06A <= Not many people agreeing with @leftfootforward are there? Muahahahaha

  13. harry potter

    of course, if the conservatives had been in power since 1997 we’d have had more public spending and lower debt. that’s because the economy would have grown more and there would have been more to tax.

    look at how the ftse-100 fared over 13 years of conservatives 1984-1997 (300% growth) and over 13 years of labour 1997-2010 (no change, slight trend down).

    see for yourself – //uk.finance.yahoo.com/q/hp?s=^FTSE

  14. Anon E Mouse

    Will – I think the problem with the unemployment statistics you use was Maggie Thatcher’s stupid idea to fiddle the figures by putting people on Incapacity Benefit.

    Those people genuinely in need of the benefit weren’t helped by millions suddenly not well enough to work.

    You should have figures Will that represent those not working and drawing state benefits as a more accurate guide…

  15. It doesn't add up...

    1. Redwood’s choice of 2% inflation is not arbitrary: it is the inflation target that the Bank of England is supposed to have, as selected by no less than Gordon Brown. If that target is not going to be met, that will be due to promoting inflation via QE and too low interest rates.

    2. Rising real salaries are sustainable only with a rise in real productivity. Public sector productivity has been falling, so there is probably plenty of scope for it to rise. There is no obvious reason why there should be higher inflation in public sector items than in the economy as a whole – unless there is carelessness in procurement. Indeed, after a period of higher inflation a period of lower inflation seems more than a possibility. Rising prosperity is never associated economically with a rising share of state expenditure. Historically, the economy has prospered most when recovering from high levels of state expenditure most often associated with war (most recently after the end of Cold War).

    3. The risk is that tax raised will fall well short of optimistic projections that assume increasing numbers of very high earning self employed people buying lots of houses at even more grossly inflated prices for example. Nevertheless, the projected increase in tax revenue is 36% over 5 years. Far from tax being assumed to make a small contribution to reducing the deficit it is expected to do the heavy lifting to a degree that is questionable. Indeed, current talk about resuming QE may be partly motivated by lower than anticipated tax revenues garnered by ambitiously high rates.

    4. Creating real productive jobs is made more difficult by regulation and taxation and high housing and energy costs in comparison with our competitors. Makework in the public sector may keep some people from roaming the streets, but it is disguised unemployment.

    5. Partly as a consequence of 4. employment is an economic lagging indicator. People only finally lose jobs when it is plain that the costs of making them redundant are far less than the costs of keeping them on. Similarly, employment only picks up when existing employees are being stretched on overtime, because of the costs and risks of taking on new employees.

  16. Stephen W

    1. In addition to what the guy above says, 2% is not arbitrary because not only is it the BoE target figure, they are repeatedly claiming it is one they will actually meet over the next 5 years. It is possible to argue the BoE are delusionally optimistic, but it is not a trivial point. Even if we take a slightly higher average inflation measure, says 2.3%, public spending only flatlines in real terms.

    2. It would be nice for public spending to hold as a percent of GDP, but that is massively different from the left-wing rhetoric you and others have been pushing about dismantling the welfare state, a return to the 1930’s, ideological attack on public spending etc, etc. You are a slippery fish who changes his words to suit his audience.

    3. In real terms public spending will only fall from around £700 billion to about £670 billion in real terms. If the deficit does come down over this period it will, logic dictates, be almost entirely due to tax revenues increasing to come up to this figure. Redwood is correct.

    Of course cuts will still be painful. Going from public spending expanding at 6% a year to falling by about 1% a year will hurt, especially with interest payments rising due to all the borrowing labour left us with before and through the recession. This will mean many other cuts in programs will be required to keep spending down to these totals. But that reflects rather the unsustainable rate of expansion of public spending under Labour’s plans rather than that the Coalition is crushing public spending.

  17. Matt Lent

    RT @leftfootfwd: Five reasons why Redwood is wrong //bit.ly/aPH06A

  18. Tom Ladds

    Right wing Tories have no idea of the damage they are about to inflict RT @leftfootfwd: Why Redwood is wrong //bit.ly/9qQfSr

  19. Michael Burke

    For a staunch Thatcherite, Redwood is somewhat coy about defending the record in total, “From 1983 to 1989 employment rose strongly.” But her premiership began, as everyone knows, in 1979 when employment as 24.7mn. It then fell very rapidly to 22.4mn at the beginning of 1983. The less rapid rise from that point on meant employment was still 1/2 million below its when she was ousted in 1990. Employment didn’t recover its former peak until 1998 -under Labour.

    Further, spending didn’t fall as a proportion of GDP until 1986/87- as driving up unemployment swells the welfare bill no matter how much benefit entitlements are slashed.

  20. adrian

    “driving up unemployment swells the welfare bill no matter how much benefit entitlements are slashed”

    not if they are slashed to nought and we allow people to work rather than parking them for life in front of jeremy kyle.

  21. Dominic Ellison

    Will Straw refutes John Redwood's claim that far from cuts taking place, public spending is to rise over next 5 years //bit.ly/b3eV8D

  22. Will Straw

    Thanks for the comments. Two points by way of response:

    1. Inflation. The deflator which Nick Pearce used is from the Treasury. This is the correct deflator to use to compare government spending in real terms. Inflation is higher than the target so a higher deflator needs to be used. Defending Redwood for using 2% because it’s the BoE’s inflation target makes about as much sense as going to the US and asking for a $2 exchange rate because that’s what it was three years ago.

    2. Presuming we want public sector wages to rise in line with living standards and that public sector inflation is higher than elsewhere, the %GDP is the right measure.

    Will

  23. idle pen pusher

    “The number is, of course, entirely arbitrary.”

    Yes and no. It’s the official inflation target. So for his purposes it’s not arbitrary. It’s only arbitrary in the context of determining what the target should be. (Why is 2% better than 2.03%?)

    What is arbitrary is pointing to the current CPI figure and implying it’ll be frozen at that level for 5 years.

    “When the economy is growing and living standards are rising, why should spending on health, education and other public services not increase accordingly?”

    The public sector doesn’t have a right to help itself to people’s increasing producitivity. It’s there to provide services, surely? Surely the point isn’t to use up resources?

    “Put another way, public spending is going to contribute the bulk of deficit reduction.”

    Put yet another way, public spending will rise by approx £50bn and they’ll take almost £200bn more from us in taxes compared to what they do now. £200bn is not ‘tiny’.

    “Meanwhile, fewer jobs means fewer opportunities for new entrants to the labour market and a bleak outlook for new graduates and school leavers.”

    Business expects to employment to rise. It stands to reason that lower taxes (than the alternative) will mean lower unemployment due to a smaller tax wedge. Let’s revisit this post in 5 years.

    “He neglects to mention that unemployment was over 3 million from March 1983 to May 1987. “
    Unemployment now is over 6 million, including “incapacity” benefit claimants etc.

  24. Michael Burke

    On inflation, Redwood concedes that even at 2% inlation, there is no real rise in spending. But, since government says it will stick to these spending targets, the question is: how realistic is it that inflation will only by 2%, and to use that as a claim there are no real cuts?

    The answer is, not very. An independent Bank of England has presided over an average inflation rate of 3%. The OBR forecasts an average 3.4% inflation over the period to 2014/15. So, the cuts will be deep in real terms, as the cumulative rise in prices is projected to be over 18%.

    But Redowood has wandered to the outer shores of sanity in his claims about per capita spending growth, as he seems to think the population is static. It isn’t. It tends to grow about 0.4% per year, so again real cuts in per capita spending andservices. The population is also ageing, which would require increased spending even if the both prices and the population were static. So again, real cuts in the provision of services, not less than 15% in real terms.

    Just like, er…George Osborne says.

  25. Mr. Sensible

    Will, fully agree.

    The point about employment is particularly exemplified by 1 of the signitaries of that letter in the Telegraph yesterday. Because, at the same time as the head of Boots is saying the private sector can make up for public sector job losses, Boots is laying people off at its Nottingham and Feltham bases.

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