Holyrood budget: A 'worst case scenario'?

By Douglas FraserBusiness and economy editor, Scotland
Reuters Jeremy HuntReuters
Jeremy Hunt announced his Autumn Budget on Wednesday
  • The Autumn Statement at Westminster brought "support for households and businesses", according to the Scottish Conservatives' Liz Smith.
  • There were big cuts in employee National Insurance contributions across the UK, and a lot of measures to encourage business to invest - something firms have been reluctant to do.
  • But from an SNP point of view, voiced by Scotland's finance secretary Shona Robison, this was the "worst case scenario". Can both of those MSPs be right?

A day after the Autumn Statement, with Tory-supporting newspapers delighting in tax cuts, the dust is settling and the public finance wonks have run the numbers and drawn the graphs.

Day Two opens up the opportunity to assess what wasn't there, partly because the chancellor did not wish to draw attention to it.

He did acknowledge, briefly, that the Office for Budget Responsibility has taken his "budget for growth", and predicted weak growth next year and the year after - weaker than it previously expected.

Other forecasts for the Scottish economy, including the EY Scottish Item Club of economists this week, suggest growth in output is close to stalling.

Recession may be avoided with economic growth remaining flat since the second quarter of last year, it said. Scottish output is expected to rise by only 0.3% in 2024 as inflation eases, real incomes rise, and interest rates begin to fall.

Fierce squeeze

There was less of an explanation from the chancellor of where those payroll and business tax cuts are coming from. We know better on Day Two: the business investment boost is much smaller than the large increase in corporation tax imposed earlier this year.

National Insurance cuts are possible because of a huge stealth tax take from people with rising salaries, due to inflation, entering higher tax bands, which are not being adjusted for inflation. Although income tax is devolved to Holyrood, that same "fiscal drag" is being applied in Scotland, and to a greater extent.

And while this was billed as a £20bn tax-cutting statement, ahead of an election, the current parliamentary term at Westminster has seen £90bn of tax increases, according to the Resolution Foundation. It still means taxation's share of the economy is at its "highest level in the post-war era".

Pay may have gone up in recent months, but only in an attempt to keep up with price inflation. Real household income per head is stagnating, and will have been doing so for two decades.

The most significant omission from Jeremy Hunt's Autumn Statement to the Commons was funding for public services.

But the Institute of Fiscal Studies and the Resolution Foundation - both independent and middle-of-the-road assessors of public finance - reckon there's a fierce squeeze on the way.

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The IFS says it will be broadly the same scale of cuts in the next five years that Britain saw from George Osborne between 2010 and 2017.

The difference is that Osborne austerity was cutting into public services that had more fat to be cut from them. The next squeeze is likely to be more painful.

That's especially true of public services that are not protected by political prioritisation. The IFS has isolated the health service, schooling, defence and the overseas aid budget as protected, at least in real terms. The more these get protection, the more everything else has to take the pain.

That includes justice, police and prisons, local authority services, universities, colleges, transport, culture, sport and so on.

The Resolution Foundation says these will face a 14% real-terms cut between last financial year and 2027-28.

Neither of these think tanks seem to believe that the scale of that squeeze is going to be politically possible. But that's the assumption the Treasury has told the Office for Budget Responsibility to work with.

Festive spirit

While different Whitehall departments mull the implications, that task in Scotland falls to Shona Robison, with a budget announcement scheduled for December 19th. It's unlikely to be brimming with festive spirit.

She has £545m additional funding spread over this year and next. That flows from a share of new money found to fund an NHS pay settlement, a freeze on business rates in England and the 75% relief on business rates for hospitality, leisure and retail.

The latter is worth £232m once it's converted into cash in the block grant passed from the Treasury to Holyrood. Shona Robison can use that as Scottish ministers wish, but there is a lot of pressure from those sectors to apply the same tax relief for the same sectors.

PA Media Humza Yousaf and Shona RobisonPA Media
Shona Robison could use income tax powers to raise more funds to ease the squeeze

England has had that relief in place for a year, while Scotland chose not to apply it.

And Paul Johnson of the IFS observes that it has the look of one of those tax reliefs, much of it growing out of the pandemic, that keeps being rolled over without any permanent commitment to it, and because people come to expect it - making it nice to have for those sectors, but failing to give them a clear signal with which to budget long term.

She said in summer that there is a £1bn gap between spending commitments and forecast revenue. The public spending watchdog Audit Scotland says that is heading towards £2bn over the next four years.

It urges public sector reform, without specifics. Jeremy Hunt describes the same challenge as requiring improved public sector productivity. That gives you a clearer idea of what might be involved - a challenge to public sector unions on contract conditions as well as holding down pay.

In a prepared speech at Holyrood this week, Shona Robison addressed the Auditor-General's call for reform, responding: "We are committed to public service reform that will help deliver fiscally sustainable public services which improve outcomes and reduce inequalities."

And that's all she had to say on the subject.

Priorities

Audit Scotland has also warned that there are more capital projects in the pipeline than the Scottish government can afford. It's going to have to axe some or put them on hold.

That is even clearer from the capital budgets published by the OBR this week. It shows the devolved current or day-to-day spending allocation to Scotland going up by £1.5bn from £42bn this year, and then rising at a slower rate in subsequent years. That does not allow for inflation.

However, its capital budget, at £5.4bn this year, is set to fall in each of the next five years, also before inflation is taken into account.

Shona Robison could use income tax powers to raise more funds to ease the squeeze. At least Jeremy Hunt did not cut income tax in such a way as to create awkward new challenges for setting Scottish rates and thresholds.

But income tax increases, aimed at high earners to be progressive, tend to offer diminishing returns. Experience so far is that raised tax rates don't actually deliver as much revenue as expected.

And Scottish ministers are sensitive to the charge of Scotland being "highly taxed" by comparison with the rest of the UK. So are inward investors. So are high earners that the Scottish government needs to retain or attract into its income tax net.

So the way out of this squeeze is to get the economy growing, bringing in more income tax revenue. Jeremy Hunt's tax cuts are intended to help that, at the expense of public services. Shona Robison has other priorities, but faster growth is the only way to deliver on them.