A commentator on this blog asked yesterday:
What puzzles and depresses me is the claim on the one hand that we are the most highly taxed we've been in a generation, yet all public services seem to be going down the pan for lack of funding. Can anyone explain to me how this can be?
That is, it has to be said, an excellent question. Thankfully, it is not too difficult to provide an explanation.
Given that a ratio is being referred to it follows that two numbers are being compared. In this case, those two numbers are total tax paid and the UK national income or gross domestic product (GDP).
As had been highlighted recently, the UK is currently in recession, meaning that GDP fell during the last two quarters of 2023. If, however, GDP was expressed as a figure per head of population the country was in recession from the spring of 2022 onwards because population grew faster than GDP.
With taxes being fixed there would, in that case, have been an increase in the tax to GDP ratio. That in a nutshell, is exactly what is happening in the UK at present. But let me explore this in a bit more detail.
There should be no particular surprise about this decline in GDP. GDP growth has been desultory since 2010, when David Cameron and George Osborne took office with the stated intention of reducing the scale of government spending within the economy.
There were two fundamental flaws with their plan at the time that they introduced it, and these flaws have remained ever since. To understand this it has to be appreciated that UK GDP is made up of a limited range of variables that are summarised in the following formula:
GDP = C + G + I + (X - M)
In this formula, C stands for the end consumption of goods and services. G represents government expenditure excluding transfer payments such as pensions, which are reflected in consumption. I represents net investment in the economy and X minus M represents exports minus imports, or our net balance of trade.
The UK government has since 2010 sought to reduce its overall level of expenditure. As is obvious from the above equation, GDP must have been reduced as a result.
Since government spending does,inevitably, become someone else's income, because contrary to the impression most politicians present it is not money poured into a black hole, consumption (C) is also reduced by cuts in government spending.
Governments since 2010 have also sought to reduce the level of benefits and other payments made by it, reducing the capacity for consumption as a consequence.
It has also reduced its overall level of investment in the economy, which is clearly reflected in the state of our infrastructure. The private sector has not made good that deficiency because reducing government and consumer spending has not provided it with the incentive to do so.
And then we did, of course, decide to leave the European Union, meaning our general trade position has deteriorated significantly, therefore reducing our export growth potential.
These government created facts, when considered together, were bound to deliver a period when GDP growth was going to be very low. And, like night follows day, that is what has happened.
Then we need to add into the overall consideration some other relevant factors.
One is the fact that economy was already suffering in 2010 as a consequence of the after-effects of the 2008 global financial crisis. The economy required an economic stimulus at that time because it was suffering under-employment and under-investment in the wake of an economic shock, and the government delivered austerity instead. That was the wrong policy at that moment that then virtually removed all prospect of growth for the decade thereafter.
Just to add to the complications, after that decade of austerity we got Covid, and that just made matters worse, compounded by the fact that the government's reaction to that shock has been to reimpose austerity, wholly inappropriately once more.
What all this means is that in the ratio of tax revenue to GDP that is the subject of the query raised, GDP has been crushed as a consequence of government policy.
At the same time, and unsurprisingly, the demand for government services has grown. That is because a poor population has higher relative health demands than a rich one. A poorer population also requires more government support than a rich one and a poorer population suffers higher levels of unemployment and underemployment than a rich one. A poorer population has also got less to spend to stimulate further growth within the economy, and therefore does not encourage additional tax payments.
The consequences of all these facts are not within the governments control: the payments that have to be made as a result of all of them are what are described as the automatic multipliers within government expenditure, meaning that they can rise as a proportion of national income whether or not government wishes that to happen. Unless it is exceptionally callous (which is a position the government has been moving towards but has still not quite reached) a government that at least tries to meet some of these needs will see its non-discretionary spending grow, albeit that the projects that it really wants to deliver to make people feel good about the country are bound to suffer as a result.
The next problem is that if, at the same time as these events occur we have successive governments that wish to balance their books then those governments will seek to raise taxes whether or not that is an appropriate thing to do given the needs of the economy at large. So, taxes rise, even if that then means consumption and investment are reduced even more as a result.
As a consequence of poor economic thinking by government that fails to understand any of this, what we get is a downward economic spiral. Growth becomes stagnant at best, but taxation demands increase to match increased government expenditure the demand for which arises directly as a result of failed government economic policy.
In other words, over almost fifteen years the government has deliberately failed to deliver growth but has created an environment where demand for government services is inevitably inflated. This is the outcome of neoliberal thinking.
Add into this the excessive costs of outsourcing, PFI, corrupt government, and the cost of wholly unnecessary exorbitant interest costs, and things just get worse.
So, why are we the most highly taxed we have been in a generation, yet all public services seem to be going down the pan for lack of funding? That's because successive governments have since 2010 done their utmost to undermine UK GDP in a way that was bound to increase demand for essential public services that then reduced the capacity to deliver other government services to the quality desired because those same governments insisted that the overall size of the government in proportion to shrinking GDP must be constrained. Mixed with an obsessive desire to balance the books this resulted in increased taxation. And until someone is willing to run deficits to break the resulting downward cycle nothing is going to change.
There is a final thought to add. What all this means is that to get out of this mess politicians have to change their behaviour, but what they re saying is that it's a pre-condition of change that the private sector delivers growth first, which makes any recovery look to be impossible since that is not going to happen whilst government policy continues to crush GDP. That summarises the mess we're in.
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Absolutely correct, Richard. Or in one sentence:
Low growth and economic crisis produced austerity, which has produced ongoing low growth and economic crisis… which (frontline politicians argue) requires more austerity.
When we’re in a hole, we keep digging!
best
Howard
I like it
I like it too, but would amend it slightly:
“Low growth and economic crisis produced an excuse to impose austerity, which has produced ongoing low growth and economic crisis… which for frontline politicians is an excuse to impose more austerity.”
A return to feudalism i.e. austerity (for the many, not the few) has always been the goal for Conservatives, regardless of the economic circumstances. Now they are backed up in this by oligarchs.
There’s a mistake in your GDP formula. While you have correctly said that G represents government expenditure excluding transfer payments such as pensions, your analysis is based on what government said they intended to expend. Real world versus the world they would like.
I am not sure what you are claiming
I am talking about what happened
Very succinctly put!
I would add two points:
Because almost all public investment now has to pass through at least one set of private hands before reaching the public, only a fraction of that spending is effective.
The relentless drive for efficiency in the public sector has made it much less effective. Why? Because there is a trade off between efficiency and effectiveness, we saw during Covid that the lack of any spare capacity meant the NHS could not deal with unexpected demand. Private provision was ultimately using the same resources to deliver, just with rounds of profit taking before it reached the public.
Agreed, although I made that point rather quickly at the end of what I said
Indeed. It is well known in control theory that the closer you run a system to theoretical maximum efficiency, the more dramatic will be the smash-ups when something goes wrong. Motorways are a simple example — nose-to-tail traffic will result in many miles of tailback as soon as there’s an accident. We see this now in the NHS, social services and justice, to name just a few. Not having a stockpile of supplies for a possible pandemic was another recent example. Such ‘efficiencies’ are much loved by management consultants and Tories.
Tl;dr: having some slack in the system delivers better outcomes.
But that’s not what productivity demands, a troll will say (and I will delete them if you do)
Something I bang on about quite frequently. For all the emphasis on ‘LEAN’, for business as well as public sector, there are two aspects of ‘The Toyota Way’ that are rarely mentioned and even more rarely implemented:
1) full autonomy (supported by proper resources) for the people actually doing the work, and
2) avoiding ‘Muri’ – wasted effort due to overburdening or stressing people, equipment or systems.
This is a helpful answer but it seems to me that it does not provide the whole story. There are countries with lower GDPs and lower tax ratios that seem to provide better public services (Spain for example). So there is still a question in the UK of where the money goes? Are public sector salaries relatively higher or are large sums of money going to private providers who cream off a large amount in profit? Also, there may be a question of the complexity of provision in the UK with often complex arrangements for the delivery of services.
For something I started writing soon after 5.30 this morning I thought that was pretty good. I never pretended it was the whole answer. I also hinted at all the issues that you raise. But let me answer some of your concerns.
First, salaries for skills employed are in line with UK averages. Comparison with other states makes no sense unless adjusted for purchasing power parity.
Second, we outsource too much. We all know PFI is bad. Outsourcing is as bad: easy issues are contracted with unnecessary profit added into the mix.
Third, we overly complicate public service supply at significant cost. The NHS has been fractured at massive cost with a lack of focus as a result, excessive management and vastly too much accounting admin resulting. That is wholly dogmatically driven and needs to be swept away to deliver integrated care. Much the same could be said of education from top to bottom.
Fourth, there has been incompetence and corruption, but thee is elsewhere too. But it is getting worse in the UK.
Fifth, prevarication has a cost and we seem to be really good at it. HS2 is the evidence.
To expand on Richards brief comment.
A large % of what the public think are public services are in fact provided by the private sector who are taking their profit margin. eg the “back office”of most Local Authorities ie payroll, IT, HR, Finance department, Highways etc etc.
Residential children’s services and Nursing Homes are private providers, and for specific complicated individual needs the costs are frequently extortionate because the LA has no where else to go to get the care.
As explained by Richard more people are poorer, so there is an increase in Housing Benefits as there is virtually no council housing left so this benefit is going to private providers. Schools have moved to Academies many of whom pay themselves and their top tier of management huge amounts.
Huge subsidies to railway companies
PFI – contracts on hospitals, schools etc means we are locked into extortionate maintenance costs.
A small % of the increase, but our ever growing House of Lords and the ever expanding numbers of “special advisors”.
And on and on.
etc etc
More detail about children’s care rip off.
https://www.theguardian.com/society/2024/mar/02/profiteering-off-children-care-firms-in-england-accused-of-squeezing-cash-from-councils
Excellent summary. Particularly the idea that private sector spending leads to prosperity, but public sector spending leads to a black hole. And that equation nails it really , if economics students learn that then there’s really no excuse for the absolute drivel published daily in the media. It seems to come down again to deliberately presenting a microeconomic view of the macroeconomy. It has to be deliberate for political reasons. In a stalemate between a govt refusing to spend until the private sector gets going, it seems to me, the government will always “win” because it creates the economic certainty that allows people to take measured risks.
If it were a closed economy some the money would stay here as profit. Some of those profits are siphoned of to big overseas corporations, offshore accounts etc. In a balanced world there would be a similar offsetting inwards flow
So what are you suggesting when the reality is that London is the hub of the hot money offshore network?
Many of us would argue that the City is the tail wagging the dog, of course. I have believed for a while that increasing automation in manufacturing, coupled with higher transport costs, provide a great opportunity to rebalance the economy by bringing production away from the far east and back to UK. If you’re running an expensive machine, you might as well do it in Salford rather than Shanghai, and save the time and energy of shipping it half way round the world. Eroding wage differentials between East and West add further weight to the argument.
For me the evidence that what already exists is a mixed economy of public and private stares you in the face.
The public sector outsources a lot of work it does – that is why we have procurement for goodness sake. My org doesn’t employ bricklayers and ground workers to build foundations in the affordable houses I get built for example.
This idea that the Tories have, that the private sector magically on its own will save the economy is pure nonsense to the point that in my eyes anyway they have no mandate or intellectual basis to be in power.
They have lost the right to govern – and they lost it a long time ago.
Excellent post BTW.
Thanks
I wouldn’t for a moment want to argue against a mixed public and private sector economy. But the outsourcing of so much of what was public sector has been / is a disaster. This means that contracts are set and when something unexpected happens eg Covid then the public sector will just flex but the contracted out bit demands a renegotiation/ extra money. You also loose lots of skills so then, as we see ever increasingly with the civil service, outside extortionate Consultants have to be employed.
I forgot to also add that because of pay / lack of flexibility staff leave the public sector eg NHS and then go back as agency staff that cost a great deal more to the Hospital etc.
The public sector cannot do it all – and anyway, that would fall into the hands of the neo-lib naysayers any way.
You can run building contracts very well with the private sector, especially if you have effective completion and handover processes.
The art is to realise what is appropriate and what isn’t. We seem to have lost a lot of that – the role of commissioners of services for example needs a really good looking at as I am not convinced.
We’re stuck in the ideology of contracting out and too often learn the hard way about the reality of it. But I see so many orgs bringing services back in to be honest.
Thanks for that Richard, I think! I’ve read it through a couple of times and think I have the gist of it. Will read it again after coffee
I balme you fo my scribbling at 5.30 this morning 🙂
Any more questions you want me to address?
Yes actually. Some of the above comments allude to the Tory mantra of Private good, Public bad. I would find it interesting to see a study (perhaps they already exist) of the cost/benefit ratios of say a privatised water, energy, postal service versus public ownership. The latter would be particularly interesting given Henry Staunton’s view that the Royal Mail should be sold to Amazon for £1
I am not sure I know of such a study. I saw one maybe 20 years ago on gas and electricity. I can’t think r seeing one since.
What I would add to this excellent explanation is that it’s not just a question of governments failing to understand any of this. ‘Austerity’ suited the Tory/LibDem government because they believe in the neoliberal ideology – that shrinking the state would automatically empower the private sector, and that this would ultimately lead to a better society. Also, they move in circles that have vested private interests in getting hold of ‘the family silver’. So whether they ‘understood’, indeed understand now that these policies make the UK poorer and many to suffer is perhaps beside the point: they believe that whatever the cost it would be worse in the longer term not to shrink the state – and especially, and sooner, worse for their ‘investor’ friends.
Great article, thx.
In paragraph 19(ish), shouldn’t “automatic multipliers” read “automatic stabilisers”?
If you wished….
But I think they beahve like multipliers
Despite all the evidence to the contrary. Do you just ignore the facts when they don’t support your theories?
You have just posted here under three different names. And you suggest I don’t deal in facts. That’s quite amusing.
One could also add that wealth distribution has flowed to the top of the smallest percentage of the wealth index and this extra wealth gained by the already excessively wealthy – whether corporate or individual, has either been hoarded not helping the general economy or used to buy assets either property of financial that has been speculative and inflationary so further weakening the general economy again. As our political system is rigged to benefit the wealthy, the wealthy who are doing nicely thanks, don’t worry about the rest of us or the pitiful state that a once ‘great’ country is becoming..
A very good question and an excellent answer.
Please keep refining it and repeating it whenever you can in the run up to the General Election.
Thanks for the great article!
What would be very useful to know is the magnitude of C, G, I, X and M relative to each other. It seems like that would really matter. e.g. if G is very small compared to C then the yes it’s a factor but probably not a great one.
Another factor is probably inflation and public sector wage stagnation(possibly implied in the govt being Scrooges). It’s surely a net benefit to pay NHS staff more!
Finally, I don’t get why politicians are so afraid of growth stimulus.
Sorry
I have been trying to find time to do this
But the weekend has got in the way
Here’s where lots of our money goes, an article from weownit today.
https://bylinetimes.com/2024/02/20/revealed-five-politically-connected-healthcare-giants-rake-in-nhs-contracts-worth-billions/
Troubled by how easy this is to understand if you want to, yet too few try to.