Last updated: June 26, 2013 7:30 pm

The spending review George Osborne never wanted

This was the spending review George Osborne did not want to make. At his last spending review in 2010, he had hoped his five-year deficit reduction drive was sufficient and the UK’s public finances would be fully mended by the 2015 election.

But with public borrowing expected to be £96bn in the 2015-16 financial year, the chancellor has long known that his 2010 dream has evaporated.

The departments facing cuts

The departments facing cuts

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Putting a brave face on his predicament, he blamed his return to the dispatch box on the sheer scale of borrowing he had inherited from Labour, which had created a “calamitous risk [to] our economic stability”. As far as Ed Balls, the shadow chancellor, was concerned, the responsibility lay entirely with Mr Osborne’s “economic failure”.

The truth is rather more prosaic. A temporary shortfall in growth or overshoot in borrowing would not have required additional spending cuts. Instead, it was the independent Office for Budget Responsibility’s assessment in late 2011 that the long-term outlook for the economy was much weaker which has forced the government to accept further spending cuts rather than relying on a rapid recovery in output.

As Paul Johnson, director of the Institute for Fiscal Studies, says, “the capacity of the economy to support a particular level of spending is less than we thought”.

For all Mr Osborne’s confusing mixing of cash changes, inflation-adjusted comparisons and different time periods to suit his political arguments, the bald facts for 2015-16 are clear and were predetermined by the protection of health, schools and overseas aid from cuts.

After adjusting for inflation, cuts to other government departments fell quite evenly in a rough range between 6 per cent and 10 per cent. Those departments with stronger public arguments – defence, business and the home office – saw smaller cuts than others.

While the chancellor talked about transformative capital spending with railway investment at its highest level “since the Victorian age” and the “largest programme of investment in our roads for half a century”, the official tables showed that economic evidence and political claims frequently clash. OBR figures show real public sector gross investment is set to fall 21.9 per cent between 2010-11 and 2017-18, with a 1.7 per cent real drop in 2015-16 alone.

Putting the political claims on Wednesday into the context of the entire eight-year deficit reduction process demonstrates that 2015-16 the most important decisions are yet to come. Spending cuts planned for the two years following the election are larger than those in 2015-16 so the pain will intensify. In addition, by the turn of the decade, pressure on the state will grow rapidly as the baby-boomer generation retires.

Julian McCrae, deputy director of the Institute for Government, said that in Whitehall, rather than the announcement of cuts, it is the next few weeks and months that matter.

“Departments now have two years to think how to implement [the 2015-16 settlement] and think more scientifically about how to take money out of the provision of public services,” he said.

The spending review after the next election will be much more difficult that the trimming undertaken by Mr Osborne on Wednesday. By then, the fat will have been trimmed and it will be time to slice into the meat of public spending.

Mr Johnson says that if the next government decides against raising taxes and return the size of the public sector to its pre-crisis level relative to national income, “the shape of government will be very different, with a much higher proportion of spending on pensions, healthcare and debt interest”.

The spending review in 2015 will be the moment that the British government faces the hard reality of the post-crisis world. With an ageing population putting greater pressure on public services, the state will have to withdraw from some of its functions, charge users for services or raise taxes to pay for them.

The chancellor started to look at one important question for the next Parliament in setting out a cap on non-cyclical social security spending. After a forecast for most non-pensioner benefits spending is published in the Budget for the following four years, the OBR will be given a specific additional task of issuing an official warning if higher spending in these areas begins to appear likely. The next government will have to tighten benefit rules to meet the target, or explain publicly why not.

But other, even bigger questions also need to be raised. Should financial support for the elderly continue to rise as a share of social security spending and relative to earnings of the working population? Should Britain accept a higher level of taxation than the normal level of a little under 40 per cent of national income? Can protection of health, schools and overseas aid survive in a world where other government departments have taken hugely disproportionate pain?

This is the grim task facing the next government.

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