Archive for the ‘investment’ Category

The changing size and shape of the UK state ahead of GE2019

Matthew Whittaker explains how the spending restraint of the austerity period and the political priorities pursued by successive governments has placed major strain on a number of public services. He argues that, as a result, the size of the state has changed over the past decade and so too has its shape.

Political consensus is a rare commodity these days. But following a decade of austerity, and with borrowing costs at historical lows, a severe bout of accord has broken out across the big political parties about the efficacy of turning the spending taps back on.

With the party manifestos now published, we can see just how significant spending ambitions are. Analysis from the Resolution Foundation suggests that Conservative plans involve pushing government expenditure to around 41% of GDP over the course of the parliament, whereas Labour’s manifesto sets a course to 45% of GDP (with the Lib Dems sitting somewhere in between). That leaves a big gap between the big two, equivalent to more than £100 billion a year – the consensus only stretches so far it seems. But stepping back, the bigger point is that the two biggest parties are plotting a significant change of direction relative to recent years: spending averaged just over 37% of GDP in the quarter century leading up to the financial crisis. As the chart below suggests, the size of our state appears to be heading back towards 1970s levels, whoever forms the next government.

But the backdrop to the plans also matters. More specifically, it is worth reflecting not just on how the size of the state has changed over time, but also its shape. Spending priorities naturally move over time, reflecting shifts in political, economic, and demographic backdrops. Yet the changing role of the UK state has been particularly pronounced over the course of the austerity decade, with the prioritisation of some key aspects of spending within a tight overall budget inevitably squeezing resources for many functions.

Departmental spending has been particularly constrained – reflecting the fact that it is the element of spending that government has most control over. And within that restricted departmental total, an increasing share has gone to health and international aid, leaving many other departments facing very sizeable reductions in spending.

As the next chart shows, the local government budget is on course to have been cut by 77% in 2020-21 relative to a 2009-10 baseline when measured on a per-capita basis. Other departments have fared only a little better, with real-terms per-capita spending down by a half in Housing and Communities, Transport and Work and Pensions, and by a third in Scotland, BEIS, DEFRA and Justice. 

In contrast to the shrinking departmental total, spending on social security has risen in real terms over the last decade or so. But there have once again been some big changes in the profile of that spending. Expenditure has shifted increasingly from working-age welfare to pensioner payments: a change that has been driven not by demographic change (with the rising State Pension age pushing back against the ageing of the population in recent years), but by deliberate policy choice. More specifically, the introduction of the ‘triple lock’ in 2011 (whereby the value of the State Pension grows each year by highest of inflation, earnings or 2.5%) alongside roughly £12 billion of cuts to working-age benefits has led to a situation in which the State Pension now accounts for 44% of all welfare spending, up from 37% just ahead of the financial crisis.

The next chart brings all this together, focusing on how overall government spending splits across different functions. By far the biggest growth over the last two decades relates to ‘old age’ social security spending and to health spending. Taken together, these two functions have gone from accounting for 29p of every £1 spent by government in 1997-98, to 33p in 2007-08, and 37p in 2018-19. The share of spending flowing to many other functions – including defence, public order and safety, and housing and community services – has been correspondingly squeezed.

It is of course up to the government of the day to determine where public spending should be directed. But the suspicion is that at least some of the recent shift is the product of a series of politically pragmatic decisions taken in isolation as part of the austerity agenda, rather than a carefully crafted strategic overview. As a country, we haven’t ever stopped and asked ourselves what the state is for, yet we have just lived through a significant reshaping of its role. That matters because, as we move beyond the election, demographic forces are set to steer the UK state further down the path already struck out on as a result of policy decisions over the last decade. Absent any further policy change, our ageing population will significantly increase the share of spending accounted for by health and old age social security.

The next chart plots the policy neutral outcome associated with the Office for Budget Responsibility’s long-term projections. It shows that old age social security and health expenditure could together account for half of all non-debt interest spending by 2067-68. Within this, health spending on its own could account for close to one-third of the total. In contrast, the share of total spending accounted for by non-old age social security drops from 19% in 2017-18 to 13% in 2067-68. And the share flowing to education falls from 13% to just 9%.

Crucially, these shares are based on an assumption that spending on all functions outside of health and old age social security continues to grow in line with the economy. If health and old age social security spending is to rise to match demographic change then, the overall size of the state as a share of GDP must rise quite considerably.

That’s the scenario set out in the final chart. It relates to non-debt interest spending only, so isn’t directly comparable with the first chart in this article. On a like-for-like basis, however, it translates into spending that falls just short of 49% of GDP – a figure well above the post-war peak of 46.6% reached in 2009-10. And of course, if the next government chooses to increase spending on some functions above that demanded by the demographic headwind – as the various manifesto promises suggest it might – then the country could end on an even higher spending trajectory.

This means there are tough choices ahead: from meeting the increased healthcare and pensions bill by squeezing spending on other services, to altering the healthcare or pension offer available to citizens, or very significantly increasing the tax take. None of the options is particularly voter friendly, so we might forgive the parties for saying little on this front for the moment. But we can’t duck the difficult questions indefinitely. There may be consensus about the need for a bigger state, but we urgently need to reflect on just what we want the state to be doing – and what trade-offs we’re prepared to make in the pursuit of that goal.


Note: the above draws on the author’s report for Resolution Foundation.

About the Author

Matt Whittaker is Chief Executive of Pro Bono Economics and former Deputy Chief Executive of the Resolution Foundation.




All articles posted on this blog give the views of the author(s), and not the position of LSE British Politics and Policy, nor of the London School of Economics and Political Science.

Three years on: the UK is paying a high economic price for its decision to leave the EU

How has the Leave vote affected the UK economy, ask Swati Dhingra and Thomas Sampson (LSE) in this second of two blogs based on the CEP Election Analysis briefing on Brexit. It summarizes CEP research on how the referendum outcome has affected the UK economy since 2016. The first blog, which reviews work on the potential long-run economic effects of different forms of Brexit, can be found here.

The full economic impacts of Brexit will not be known for many years. But three and a half years after the referendum, we can assess how the Brexit vote has affected the UK economy since June 2016. The vote has already had economic impacts because economic behaviour depends upon both what is happening now and upon what people and businesses expect to happen in the future. The referendum changed expectations about the future of the UK’s economic relations with the EU and the rest of the world. Not only is Brexit likely to make the UK less open to trade, investment and immigration with the EU, but it has also increased uncertainty. Researchers at the CEP and elsewhere have studied the effect of the Brexit vote on the value of the pound, output, prices, trade, wages and investment.


The immediate economic impact of the Brexit vote was a depreciation of sterling. On referendum night, sterling saw the biggest one-day loss that has ever occurred in the four major currencies of the world since the collapse of Bretton Woods. Between 23rd and 27th June 2016, sterling declined by 11 per cent against the US dollar and 8 per cent against the euro, and it has remained around 10 per cent below its pre-referendum value.

Image by Images Money, (CC BY 2.0).


A broad indicator of economic performance is the growth rate of GDP. While the UK started with a steeper growth trajectory, it has fallen behind other G7 countries since the referendum (Figure 1). The Brexit vote is estimated to have reduced UK’s GDP by between 1.7 and 2.5 percentage points lower, or between £1,300 and £2,000 per household in pound terms (Born et al. 2019).

Figure 1: GDP Growth in the UK and Other G7 Countries 2012-19

Source: CEP calculations, updated from De Lyon and Dhingra (2019). GDP values are deflated by country-specific GDP deflators. Other G7 countries include France, Germany, Italy, Japan and the United States.

Prices and the cost of living

Consumer Price Index (CPI) inflation rose dramatically from 0.4 percent in June 2016 to 3 percent in January 2018. Breinlich et al. (2019a) study whether this increase in inflation was caused by the Brexit depreciation. If the sterling depreciation is responsible for higher inflation, we would expect product groups where consumers buy more imported goods, such as food and clothing, to have experienced bigger price rises than groups less sensitive to import costs, such as restaurants and hotels. And this is exactly what Breinlich et al. find. After disentangling the effect of higher import costs from other factors that affect prices, Breinlich et al. estimate the Brexit vote increased consumer prices by 2.9 percentage points in the two years following the referendum, which equates to an £870 pound per year increase in the cost of living for the average UK household. It would be wise to view the precise magnitude of this effect with some caution, but the cost is undoubtedly substantial.


By making UK exports cheaper, the depreciation of sterling following the referendum could, in principle, give UK firms a competitive advantage in foreign markets leading to higher exports. However, real export growth has not increased since the depreciation, compared to other G7 countries, as shown in Figure 2a. For firms with global supply chains, currency depreciations also raise import costs, mitigating the competitive advantage of the depreciation for exporting. The growth in real imports into the UK has been broadly similar to that in other G7 countries, as shown in Figure 2b. The nominal value of imports has risen, but this is largely because of a rise in import prices due to the sterling depreciation. Analysis by Costa et al. (2019) finds that the rising cost of imported inputs has dominated the potential revenue gains from exports brought about by the depreciation.

Figure 2: Real exports and imports in the UK and other G7 countries, 2012-19

(a) Exports       


(b) Imports

Source: Updated CEP calculations from De Lyon and Dhingra (2019). Trade values deflated by country-specific producer price indices (PPIs). Other G7 countries include France, Germany, Italy, Japan and the United States.

Wages and employment

The increase in inflation due to the Brexit depreciation has not been accompanied by faster income growth. As shown in Figure 3a, higher inflation after the referendum led to a decline in real wage growth. Real wages dropped from a pre-referendum annual growth rate of 1.1% to less than 0.1% after the referendum. Research by Costa et al. (2019) sheds more light on the causes of this real wage stagnation. After the referendum, workers in sectors that saw bigger increases in the price of their intermediate imports experienced slower wage growth and reductions in job-related education and training. Comparing sectors in the top and bottom halves of the intermediate import-weighted depreciations, Figure 3b shows real wages in the top half of sectors were growing at 1.3% annually before the referendum and this dropped to -0.6% after the referendum. This is a slowdown of 1.4 percentage points, compared to less exposed sectors in the bottom half, which saw an increase in their annual real wage growth from 1% to 1.4% after the referendum. While wages had been growing in the pre-referendum period, real wages have stagnated since then and this effect is more pronounced in sectors that have been hardest hit by rising costs from the sterling depreciation.

Rising import costs have not translated into job losses or reductions in hours worked, except paid overtime hours which have seen reductions since the referendum. Overall, the drop in training opportunities and anaemic wage growth at a time of high employment rates raises serious alarm of a deepening of the productivity slowdown that has plagued the UK economy for years.                          

Figure 3: Wage growth, 2012-18

(a) Nominal and Real Wage Growth In All Sectors                      


(b) Real Wage Growth in Sectors at the Top and Bottom of Import Cost Exposure

Source: Office for National Statistics and CEP calculations based on Costa et al (2019). Wage growth is the percentage change year on year in the three month average of Average Weekly Earnings – Regular Pay. Real AWE is Nominal AWE deflated by CPI. The dashed vertical line shows the date of the referendum (June 2016).


Uncertainty makes businesses less willing to invest in risky new projects. Bloom et al. (2019) find that firms that report experiencing higher Brexit-related uncertainty have had lower investment and productivity growth since the referendum. They estimate that anticipation of Brexit reduced business investment in the UK by 11 percent in the three years following the referendum. The Brexit vote has also started to affect investment flows into and out of the UK. Reduced openness makes the UK a less desirable investment destination because it increases the costs of using the UK as a base for serving EU markets. CEP research by Breinlich et al. (2019b) shows that the Leave vote led to a 17% increase in new investment projects by UK firms in the EU by March 2019, but did not affect UK investment outside of the EU. Looking at flows in the opposite direction, Breinlich et al. find that the referendum reduced new investment projects by EU firms in the UK by 9 percent over the same period. Together these estimates suggest that Brexit is making the UK a less attractive place to do business.

Final words

It is too soon to evaluate the accuracy of forecasts that estimate the potential long-run effects of Brexit and as time passes, new evidence will continue to provide fresh information on the response of the economy to Brexit. However, even before Brexit has happened evidence on post-referendum changes in output, prices, trade, wages and investment shows that the UK is paying an economic price for its decision to leave the EU.

This post represents the views of the author and not those of the Brexit blog, nor the LSE.

UK think tank: No EU trade deal after Brexit risks more austerity

LONDON — Failure to strike a U.K.-EU trade deal would force the British government to adopt an austerity program in the medium term, according to the Institute for Fiscal Studies.

At a briefing on the U.K. parties’ policy manifestos on Thursday, IFS Director Paul Johnson said failure to strike such a trade deal “seems to be more of a risk” under the Conservatives than under Labour. Such a scenario “would harm the economy” and “increase the debt and deficit,” he said.

If they win the upcoming election, the Conservatives plan to pull the U.K. out of the European Union by January 31 and then push for a trade deal with the EU by the end of a Brexit transition period, planned to run until December 2020. Prime Minister Boris Johnson says a Conservative government will succeed in striking an agreement with the EU and has pledged not to extend this negotiation period.

Labour’s Jeremy Corbyn, meanwhile, wants to renegotiate the Withdrawal Agreement Brussels struck with Johnson’s government within three months of winning power to keep the U.K more closely aligned to the rest of the EU. Such a deal would be subject to a referendum.

Soon after a collapse in U.K.-EU trade talks, there could be “big giveaways” by the British government, followed by spending cuts in the medium term, according to the IFS Deputy Director Carl Emmerson.

“A return to austerity would perhaps be the most likely outcome, not immediately, but in the medium term,” he said.

Both the Tories and Labour have pledged to end austerity in their policy manifestos ahead of the December 12 general election, but they have proposed very different levels of public spending.

The Conservative program promises just £2.9 billion extra a year by the end of the next parliament, whereas Labour pledges an extra £83 billion a year. This figure is likely to be higher after Corbyn announced that a Labour government would compensate some women who lost out as a result of changes to the pension age.

According to the IFS director, the chances of a Conservative government being able to hold spending down over the course of a five-year parliament in the way that they outlined in their party manifesto “look remote.” It is “highly likely” that a Tory government would be forced to either increase taxes or borrowing, he added.

The Conservatives “might come to regret” its promise not to increase rates of income tax, National Insurance Contributions or VAT, if Brexit delivers a blow to the British economy, he said.

This all might explain why the Conservatives have been “so immensely modest” in their proposals, the IFS’s Johnson said. “To do otherwise would either mean resiling from their pledge to balance the current budget or would mean being up front about the need for tax rises to avoid breaking that pledge.”

He also cast doubt over Labour’s plan to raise investment levels by £55 billion a year, saying the public sector does not have the capacity to “ramp up that much, that fast.”

Responding to the IFS analysis, Chancellor Sajid Javid said the Conservatives “have been very clear” with their spending commitments in this election.

“We have also clearly set out exactly how we are going to fund them,” he said in a statement. “We have a very detailed costings document — the most detailed I would say that any party has published in any British election — so I’m very confident about that.”

Scottish National Party’s manifesto explained

LONDON — The Scottish National Party launched its manifesto with a promise to end austerity and a list of conditions for Jeremy Corbyn should he need support from another party to become prime minister.

As Brexit looms, against the will of the majority of voters in Scotland, the SNP is hoping the U.K.’s December 12 election will have a similar outcome to the 2015 ballot, when the party won a landslide victory. Turnout will be crucial for Sturgeon’s success, as a fall in participation was blamed for the party losing more than a third of its seats in the 2017 election.

Sturgeon has put a second independence referendum in 2020 at the core of the SNP manifesto, saying she would be willing to form a “progressive alliance” with Labour in return for a fresh ballot and extra cash for Scotland.


The SNP wants Scotland to become an independent country and stay in the European Union. In order to achieve that, the party will demand that the U.K. government transfers the necessary powers to allow the Scottish parliament to hold a second vote on independence, which Sturgeon’s party wants to hold in 2020.

If Scotland becomes independent, a SNP government would seek to be readmitted into the EU, the manifesto says.


For more polling data from across Europe visit POLITICO Poll of Polls.

The SNP says it would support a second EU referendum with Remain on the ballot paper. The party would be in favor of cancelling Brexit if that is the only alternative to leaving the EU without a deal, it adds.

“Whatever Scotland’s constitutional status, it is important for the U.K. to remain as close to the EU as possible. SNP MPs will always vote to protect Scotland’s place in the single market and customs union,” the manifesto says.


The SNP wants migration policy to be devolved to Edinburgh.

It says it will continue to press the U.K. government to guarantee EU nationals’ right to remain in Britain, and will back calls for EU nationals to be allowed to vote in U.K. general elections.

If the U.K. government introduces a seasonal migrant workers’ scheme to replace EU freedom of movement, the SNP says it will insist such a scheme meets the needs of workers and companies in Scotland.

The SNP will oppose Tory plans to require certain migrants to earn at least £30,000 in order to get a visa to work in the U.K., something the Johnson government has asked the independent Migration Advisory Committee to review. It will also campaign against the U.K. government’s Immigration Skills Charge, which forces employers to pay up to £5,000 per worker hired from outside the European Economic Area; and against indefinite immigration detention.

Access to citizenship has become increasingly costly, the SNP says, adding it would support a review of the citizenship application process with a view to bringing down its cost and reducing its complexity.

A streamlined visa scheme should be created to allow artists and performers to continue to work in the country, the party says.


The SNP says it will not support any U.K. government that does not put an end to austerity.

Its manifesto puts forward a funding plan for Scotland covering three core demands. First, reversing £1.5 billion cuts to the Scottish budget and increasing the budget in real terms; second, a plan to compensate for the last decade of austerity; and third, a demand for the U.K. government to increase per-head NHS funding south of the border to levels seen in Scotland, which it says is currently £136 per person higher. This increase in health spending in England would result in additional money for the Scottish NHS under the Barnett formula, which pegs public expenditure in Scotland, Northern Ireland and Wales to levels in England.

It says the Scottish National Investment Bank, which will be operational in 2020, will provide £2 billion of long-term capital to companies and infrastructure projects. A top priority for the bank would be supporting the transition to net-zero carbon emissions.

The party will demand the devolution of employment and further tax powers, and support a crackdown on tax avoidance and evasion.

SNP MPs will press for the statutory living wage and support a freeze on National Insurance contributions and Value Added Tax, as well as a reform of VAT to include exemptions on items such as children’s clothes.

To help businesses struggling to hire due to Brexit uncertainty, the SNP says it would support a rise in the National Insurance discount companies receive — the so-called Employment Allowance.

The party also wants to increase the transparency around tax paid by international companies “to ensure that they make a proportionate contribution to tax revenues.”

It will oppose any rise in the pension age and demand the end of the two-child benefit cap, the so-called rape clause, the bedroom tax and Universal Credit.


The SNP pledge to make mobility across Scotland more environmentally friendly by spending more than £500 million on buses, and helping people afford ultra-low emission vehicles by providing an additional £17 million in loans.

The party said it wants to reduce emissions from Scotland’s railways to zero by 2035 and will press the U.K. government to improve journey times between Scotland and London.

The Highlands and Islands could become the world’s first net zero aviation region by 2040, the SNP said. To achieve that, the party wants to start trials of low- or zero-emission flights, including electric planes, in 2021.


The SNP will press the U.K. government to support the roll-out of fiber broadband and 5G technology, and ensure Scotland gets “its fair share” of the £5 billion of U.K. government funding to expand gigabit broadband to remote areas.

The SNP wants the internet to be reclassified as an essential service.

After Brexit, SNP MPs will assess the impact of voluntary free roaming arrangements for mobile phone use in the EU, the manifesto says.

Financial services

The manifesto says the biggest corporate failure in recent years was the “financial crash” and promises to work to make sure those responsible are held to account. It would do that by supporting the reinstatement of the reverse burden of proof, which required senior bank managers to show they had addressed any wrongdoing on their watch.

The party says it seems “unfair” that the taxpayer stepped in to bail out the banks while financial investors could reap a profit by selling shares in Royal Bank of Scotland “on the cheap.” To address that, the SNP would press for the public interest to be “fully protected” in any future disposal of RBS shares.


An SNP government would increase frontline health spending by more than £15 billion by 2021-2022, the manifesto says. It would call on the U.K government to match Scottish per capita NHS funding in England.

SNP MPs will push for a National Health Service Protection Act “to guarantee that trade deals will not undermine the founding principles of the NHS, nor open it to profit-driven exploitation,” and any future trade deals would require the consent of the Scottish Parliament, Welsh Assembly and Northern Irish Assembly.

The SNP also wants the devolution of powers to tackle drug use and gambling.

New standards should be introduced to protect children from online harm, the party says. It floated plans to appoint an independent online regulator with the ability to impose heavy fines and block access to websites. The regulator would be funded through a levy on technology companies.

Agriculture and fishing

The SNP will fight for funding for agriculture and rural policy to be devolved to Scotland after Brexit, and to prevent post-Brexit tariffs on products such as seafood, fish and red meat, and for those sectors to be “fully compensated” if tariffs are introduced. They will also campaign for Scottish control of Scottish fisheries.

The party opposes the removal of import tariffs on products including cereals, horticulture, potatoes and eggs, saying doing so “could open up Scotland to sub-standard products.”

SNP MPs will promote reform of U.K. excise duty structures and tax for Scotch whisky. It also wants to ensure the continued use of Protected Geographical Indications, an EU scheme that designates a product originating in a specific place.

Climate and sustainability

The SNP pledged to make Scotland carbon-neutral by 2040.

The party will campaign for the U.K. to remain aligned with EU environmental regulations after Brexit, and for the British government to continue to invest in carbon-capture and storage technologies.

The manifesto includes plans for a Green Energy Deal to ensure renewable energy schemes get long-term funding certainty.

The SNP demands the ring-fencing of oil and gas receipts, creating a Net Zero Fund to drive investment in renewable energy, electric vehicles and carbon capture utilization and storage.

Fracking would not be supported, it says.

It proposes a reform of the energy market to help households with their home energy bills. SNP MPs would press for the introduction of a database of people who have not switched suppliers as well as a national free switching service, showing the energy tariffs available and average bills.

SNP MPs would campaign for tax incentives to help companies in their transition to zero emissions, and a reduction in VAT on energy efficiency improvements in homes.

The manifesto includes a target to plant 30 million trees annually in Scotland by 2025.


The SNP wants to expand childcare into the school holidays for primary pupils from the poorest backgrounds.

It pledges to keep higher education free, and to continue to use its £750 million Scottish Attainment Fund to help students from poorer backgrounds go to university.


In exchange for SNP support for Labour, Sturgeon would demand the removal of the Trident nuclear deterrent from Scotland, and use the money currently spent on the program for the NHS and other public services.

The manifesto says SNP MPs would build a cross-party coalition to scrap Trident “as quickly and as safely as possible.”

The SNP will continue to press for U.K. investment in “conventional defense” and demand that the U.K. maintains its commitment to spend 0.7 percent of GDP on international aid.

Law and order

The party says it has recruited an additional 1,000 police officers since it took office, and will continue to demand the U.K. government refunds “the £175 million in VAT owed to Scotland’s emergency services.”


Replacement of first-past-the-post voting system with the single transferable vote system; increase maternity leave to one year and increase paternity leave from 52 to 64 weeks.

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