The final report of the Welsh Assembly's Independent Commission on Funding and Finance for Wales (the Holtham Commission) has been out for a week now, but was well trailed before then. I have refrained from commenting on it until having an opportunity to read it.
It follows on from its first report this time last year, and in view of the first report's themes, the conclusions and recommendations in the final report should come as no surprise. It's three main proposals are the introduction of a needs based block grant system for the UK to replace the Barnett formula; devolved income tax and other tax raising powers within Wales; and borrowing powers for the Welsh government and assembly.
This article does not deal with borrowing powers.
Needs based block grant
I will not say much about block grant and the Barnett formula, because I have commented on it before in the context of the report of the Richards Committee and on other occasions.
My prediction has always been that any government is going to struggle with the replacement of the Barnett formula, because a needs based formula would require reducing the Scottish block grant. Well in theory it wouldn't - the present Barnett system for Scotland could be retained and a needs based grant introduced for Wales - but the idea that those in England can always expect the worst outcome for them in order to further the interests of the devolved administrations may result in another (although more peaceable) Pilgrimage of Grace descending on London from the north of England, and this time perhaps from the south as well. (Although at first mainly to do with religion, in the Pilgrimage's second phase, feelings boiled over into insurrection partly because of fears of new taxes and economic favouritism and not just a love of the Old Church.)
There is also the problem of defining need. The Holtham Commission's proposals in its first report go to some pains to explain how this can be done, but different parts of the UK (and in particular those in England who have no one explicitly batting for them) are likely to harbour the suspicion that a needs criterion which is at heart subjective, whatever outward system of measurement may be devised for it, is being engineered against them.
Certainly the coalition seems to have put it on the back burner and I don't think the latest Holtham report is going to change this.
Devolved income tax
It is useful to compare the Calman Commission proposals on devolved taxation for Scotland with those of the Holtham Commission for Wales. Holtham can be thought of as a development of the Calman proposals. It is rather more "Calman-revised" rather than "Calman-plus".
In summary, under Calman the UK rate of income tax less 10% would apply in Scotland with a commensurate reduction in UK block grant (whether that grant comes from the Barnett formula or something else). The Scottish Parliament could then decide how much of the missing 10%, or more, is to be paid by Scottish tax payers. In effect they could set the income tax rate applying in Scotland to anything they want provided it is not more than 10% below the UK rate (and so either keep or suffer the difference), but cannot alter tax bands or differentials between bands. As well as tax bands and differentials remaining in UK government hands, so would the income thresholds for them, and allowances.
Under the Holtham Commission proposals, 50% of UK tax rates in each tax band would apply in Wales. The Welsh Assembly would then decide how much of the missing 50% in each band (or more) is to paid by Welsh tax payers, and could decide different rates for different bands (so they could decide to make Welsh tax less progressive or more progressive than UK tax), as long as the rates fixed by the Assembly are within 3% of the UK rate for the band. They could not alter the thresholds applying to each band, nor allowances.
Holtham also specifically deals with the key issue of how UK and Welsh growth would interconnect. The offset against the UK block grant contribution representing the 50% of income tax in Wales which is henceforward to be managed by the devolved institutions would be determined once and for all on the new system coming into effect, and would thence be indexed by reference to UK-wide growth of the tax base. So the Welsh Assembly and government would be rewarded or penalised for their own performance in financial management to the extent of the income tax levied in respect of that "missing" 50%. Something similar did not explicitly form part of Calman, and has since been one of the criticisms of the Calman report. However the Holtham Commission's proposal on this also has its consequences, which I deal with further towards the end of this article.
This is an interesting but odd mixture of concepts. Ostensibly 50% of income tax is to be "devolved", but so far as concerns rates of taxation it is only in fact devolved to the extent that the tax must be within 3% of the UK rate, so as a description this is somewhat misleading. This 50% really determines the amount of Welsh tax-take which is to be directly available to the Welsh Assembly and Government as a link to the economic performance of Wales.
It is interesting to see the report's reasoning behind enabling the Assembly to set different rates between tax bands. The example given in the report concerned higher rate payers migrating to England if they would otherwise be hit by the Assembly increasing the basic rate of tax, given the close proximity of most of Wales to England and that much of the tax base comes from the border areas of Wales: Holtham wants to allow less progressive taxation in Wales, which will surely be a difficult sell politically. (Holtham is persuaded by the "Laffer curve" for higher rates of income tax in areas where taxpayer mobility is a significant factor, under which increasing higher rates beyond the Laffer maximum can result in a reduction of the tax taken. It implies that those only on the basic rate of income tax are a "captive audience" unlikely to move to England if that rate is raised above the rate set by the UK Parliament for England and Northern Ireland.)
Other tax matters
Holtham also recommends consideration should be given to devolving rates of corporation tax, but this is complicated because of EU rules on state aid.
As in the case of Calman, it recommends that stamp duty land tax should be wholly devolved, and (unlike Calman) capital gains tax on property and land. By "property" it appears to mean things affixed to land rather than chattels or non-physical property. It also recommends as in the case of Calman that landfill tax and aggregates levy should be devolved.
The wider picture: (1) need and the block grant
I said I would comment further on how the block grant would work. The use of need as the determining factor in block grant allocation could be seen as the enemy of fiscal responsibility, the reinforcing of which the report states is one its aims. It means that if the devolved administration fails to administer the economy well and economic performance diminishes, then the UK tax payer is, through a needs based formula, there at least in part to soak up the consequences of the failure: so there is a contradiction at work here. The same could also of course be said about the benefits system, but few would want to argue against UK-wide benefits unless the UK were to be split into entirely separate economic units.
The report's recommendations would bring about some linkage between good financial management and an appropriate reward for the devolved administration, by freezing the 50% "offset" against the needs-based block grant to which I have referred, and then indexing it against the UK-wide tax base.
Of course a fixed formula such as the Barnett formula, with the application of local taxation on top of that and the same frozen offset, would reward performance just as well, leaving the workings of the Barnett formula and the UK benefit system as the UK's response to need. Any system may have to be rebased from time to time, even one following the Holtham approach. One could argue that Barnett can be rebased now on a one-off needs basis once devolved taxation is first introduced, with occasional rebasing as required thereafter, rather than making annual arguments about relative need between the constituent parts of the UK a permanent feature of the future government of the UK.
The wider picture: (2) the UK dimension
On its economic analysis, and its consideration of how that plays out in relation to devolution, the Holtham Commission is very thorough. It also makes much more of a nod to how its proposals affect the integrity of the UK as a whole than does Calman. It comments that "We have tried hard, both in this report and in our previous publications, to avoid any suspicion of special pleading", with a whole section elsewhere devoted to "The dimensions of the union between Wales and the rest of the UK". Although the latter section of the report considers, amongst other matters, what it describes as "negative spillovers", it does so only in the fields of economics and tax competition. It does not deal with the wider political consequences, nor dare I say it, the wider legal-constitutional aspects.
I am sure regular readers will have realised that this is still an area which worries me.
In whatever way the relationship between achievement/reward and devolved taxation may be managed, the outcome of these proposals would be that Scottish income tax would be set by the Scottish Parliament provided it is at a level not more than 10% below the UK rate, and Welsh income tax would be set by the Welsh Assembly provided it is within 3% of the UK rates. Since no Scottish Parliament is ever going to wish to set the income tax rate applying in Scotland which is at a level more than 10% below UK rates - it would be completely unrealistic unless there were to be fiscal autonomy giving rise to a wholesale redesign of the tax system in Scotland - the net effect is that the Scottish Parliament would henceforward set the rates of income tax applying in Scotland. The Welsh Assembly would be subject to the plus or minus 3% cap as against UK rates to which I have referred, should the Holtham recommendation on this be accepted, but any thought that an Assembly might want to set it outside those bounds anyway is somewhat illusory. The devolved institutions would also set their own rates of landfill tax and aggregates duty, and might in due course have areas of capital gains tax for which they set the rate.
Under these proposals, the other remaining links with UK rates of income tax would consist only of the thresholds applying to each income tax band (in effect, the "definitions" of the bands) and, for Calman and Scotland only, the differentials between these bands. This represents a substantial deepening of the West Lothian Question, given the constitutional link between representation and taxation. If income tax rates applying in Wales or Scotland were to be less than those in England, and the higher rates in England were only to be carried by virtue of the votes of Scottish and Welsh members, it is easy to see the trouble that this might cause.
In short, the present arrangement under which the devolved institutions are responsible for spending large sums of money from the UK Treasury whilst having limited responsibility for raising it (and none at all in Wales) can and should be viewed as an anomaly. However, is it an improvement to solve that anomaly by making another one worse, and is the union made more secure by doing so?
The answer to that may be yes, but this is a debate which has been completely lacking so far, yet one which needs to be had, and which will come back to bite us in due course if we don't.
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Update: An exchange of comments made on this article has led me to the conclusion that, as far as income tax is concerned, the Calman proposals and Holtham proposals do not significantly worsen the West Lothian question (although I still think eyebrows would be raised if higher rates were to exist in England only by virtue of the votes of members for Welsh and Scottish constituencies). To see why, it is necessary to think in big and implausible numbers. Let us say that the Westminster Parliament were to decide that income tax should go up by 5%, and the Scottish Parliament were to decide not to follow this but instead to keep rates in Scotland as they are. They would be entitled to do this, but would take a significant revenue hit. Only the top 5% of income tax they set would supplement the block grant, rather than 10%, so if they wanted to make up the difference they would have to think about raising local taxation (eg through non-domestic rates or domestic local taxation) or finding the money in some other way.
Of course, for taxes which are to be wholly devolved, such as landfill tax and stamp duty land tax, the West Lothian question does apply in full force, but these are not taxes likely to start pulses racing (although interestingly it was stamp duty which was one of the issues which finally drove the American colonies to rebellion).
Showing posts with label Barnett formula. Show all posts
Showing posts with label Barnett formula. Show all posts
Tuesday, 13 July 2010
Friday, 16 April 2010
More on the West Lothian Question
Victor Bogdanor, Professor of Government at Oxford University, has been opining again, this time in an article in today's Times, mainly centering on what he thinks will be a Liberal Democrat break-through in the election in May. Certainly Nick Clegg seems to have done quite well in yesterday's TV debate and it does make the election an intriguing one. Professor Bogdanor's main thesis in the article is (and has been in the past) that proportional representation in the House of Commons is the way to go.
At the same time, he has taken another opportunity to take a swipe at the Conservative party's policy on the West Lothian Question which now features in their manifesto, namely to have an English Grand Committee for domestic legislation, such as on health, education and local government, which only applies to England or to England and Wales.
He says this about the manifesto:
First, the Tory policy is for an English Grand Committee, not "in short, English votes on English laws". Under the Tory policy no Bill applying only to England or England and Wales could pass its second and third reading stages without a majority of all members of the House of Commons, including Scottish and Northern Irish members. If Scottish members don't like a particular proposal, they can vote to block it.
Secondly, were there to be a cut in education spending in England, it does not mean the Scottish government would have to do the same to its education expenditure, as expenditure is not hypothecated in this way. The block grant paid into the Scottish Consolidated Fund is calculated globally by reference to all expenditure on matters in England which are devolved in Scotland. Were the Scottish block grant to be reduced because of cuts in expenditure in England on education, the Scottish government could choose to maintain education spending at the expense of something else: but in fact Scottish block grant would not be cut at all unless a cut in the English budget for education were to be used either to fund UK-wide expenditure (for example, defence and foreign affairs) or were to be used to cut general taxation. Were it to be used to cut general taxation, the Scottish Government could decide to maintain levels of taxation in Scotland by exercising its right to raise income tax by up to 3p in the pound (which the Scottish Parliament already has the power to do and does not rely on Calman), so providing the revenue which they would otherwise lose by the UK tax cut.
Thirdly, as I have previously mentioned, service legislation on, say, education would only very rarely have a direct effect on spending. It is the annual expenditure votes for the services concerned which determine that, on which all members of the House of Commons can and do vote. (For more information on how so-called supply works, see this.)
Lastly, both the Conservative and Liberal Democrat parties now have proposals to replace the Barnett formula with a needs based formula. Were that to be done, the argument (poor as in my view it was to begin with when examined critically) falls flat on its face.
At the same time, he has taken another opportunity to take a swipe at the Conservative party's policy on the West Lothian Question which now features in their manifesto, namely to have an English Grand Committee for domestic legislation, such as on health, education and local government, which only applies to England or to England and Wales.
He says this about the manifesto:
"'A Conservative Government', the manifesto declares, 'will introduce new rules so that legislation referring specifically to England, or to England and Wales, cannot be enacted without the consent of MPs representing constituencies of those countries' — in short, English votes for English laws.This is the "Barnett consequential" argument. The trouble is that, as I have mentioned before, this analysis is wrong. It as if, by repeating it often enough, it becomes right.
"The trouble is, however, that any issue at Westminster involving the expenditure of public money is of concern to Scotland, since it may affect the level of taxation in Scotland and also, indirectly, the level of Scottish public expenditure. Scotland is financed through a block fund, the size of which depends, through the Barnett formula, on expenditure in England.
"Were a Conservative government to cut expenditure in a devolved area such as, for example, education, there would be a knock-on effect north of the Border. The Scots would have to cut their own expenditure on education, whether they wished to or not. It is for this reason that MPs from the devolved areas currently retain the right to vote on what might seem to be merely English domestic affairs."
First, the Tory policy is for an English Grand Committee, not "in short, English votes on English laws". Under the Tory policy no Bill applying only to England or England and Wales could pass its second and third reading stages without a majority of all members of the House of Commons, including Scottish and Northern Irish members. If Scottish members don't like a particular proposal, they can vote to block it.
Secondly, were there to be a cut in education spending in England, it does not mean the Scottish government would have to do the same to its education expenditure, as expenditure is not hypothecated in this way. The block grant paid into the Scottish Consolidated Fund is calculated globally by reference to all expenditure on matters in England which are devolved in Scotland. Were the Scottish block grant to be reduced because of cuts in expenditure in England on education, the Scottish government could choose to maintain education spending at the expense of something else: but in fact Scottish block grant would not be cut at all unless a cut in the English budget for education were to be used either to fund UK-wide expenditure (for example, defence and foreign affairs) or were to be used to cut general taxation. Were it to be used to cut general taxation, the Scottish Government could decide to maintain levels of taxation in Scotland by exercising its right to raise income tax by up to 3p in the pound (which the Scottish Parliament already has the power to do and does not rely on Calman), so providing the revenue which they would otherwise lose by the UK tax cut.
Thirdly, as I have previously mentioned, service legislation on, say, education would only very rarely have a direct effect on spending. It is the annual expenditure votes for the services concerned which determine that, on which all members of the House of Commons can and do vote. (For more information on how so-called supply works, see this.)
Lastly, both the Conservative and Liberal Democrat parties now have proposals to replace the Barnett formula with a needs based formula. Were that to be done, the argument (poor as in my view it was to begin with when examined critically) falls flat on its face.
Saturday, 18 July 2009
House of Lords Committee on the Barnett Formula
The House of Lords Select Committee on the Barnett Formula (the Richard Committee) published its report yesterday. The Barnett formula is the formula which distributes block grant to the devolved administrations in Scotland, Wales and Northern Ireland for the funding of devolved matters. It does this mechanically, by apportioning a percentage of any increase of expenditure in England in any financial year on those matters to the block grant paid to the devolved administrations.
The Committee recommend that the Barnett formula should be scrapped and a needs based formula substituted for it to distribute funding on devolved matters. The Committee have come up with their own formula based on a combination of the relative number of infants (under 5s), children (5s to 16s), pensioners (over 65s), the level of child poverty, household income, unemployment, disability, and mortality rates. It concludes:
In comparison with the Barnett formula, the general effect is that on the Committee's needs measure, people in England would not see their position changed to any great extent in terms of share of overall UK resources, people in Scotland would see less, people in Wales would see more (although even now they receive more per capita than do those in England albeit less than Scotland) and I am not clear about the position on Northern Ireland - the Committee's proposal is probably broadly neutral for Northern Ireland because the administration there already receive considerably more per head than the rest of the UK under the Barnett formula. Broadly therefore, the Committee's proposed formula would transfer some of Scotland's block allocation to Wales.
What is the chance of this being implemented? Next to zero. The Treasury are against the changes: their spokesman said about the report "The Barnett formula has served the UK well over the years. It has proved to be a robust mechanism for allocating spending to the devolved administrations and has stood the test of time". This reflects Treasury evidence given to the Committee. Whilst David Cameron has recently made some noises about looking to revise Barnett, he has also said that this ought to be on the basis of consensus and generally agreed principles.
It would be unfair to label the Committee's proposed needs formula by reference to the axiom "Garbage in, garbage out". But any particular outcome under the Committee's proposals is highly dependent on what indexes of "need" are chosen and how they are measured. The Committee suggest that respective needs can be settled in accordance with recommendations made by a new "independent" UK Funding Commission. The problem is both that such a Commission could never and should never be independent because any needs-based funding formula requires taking a view on social priorities, which would inevitably and rightly have to be subject to political control, and that the temptation for politicians to tweak the inputs to achieve previously determined and desired outputs would probably be irresistible. By contrast, the Barnett formula is purely mechanical - find out what the uplift or reduction in England in any financial year has been on devolved matters, and apply a proportion of the same uplift or reduction to the block grant to the devolved administrations.
But the main problem, and the one probably causing the Treasury to pour cold water on it, is the likely impossibility of achieving agreement. First, the Committee's approach would not cater for those in England who, rightly or wrongly, see themselves as unfairly treated (an overlooked majority) as a source of subsidy for the rest of the UK. Secondly, there is no way that the Scottish government will do anything other than oppose it - their "remedy" to the Barnett formula is fiscal autonomy for Scotland. Thirdly, it is difficult to see the Tories, with their miserable Scottish representation, wanting to reignite claims that they are an "anti-Scottish" party by cutting Scottish block grant in comparison with the rest of the UK as one of their first actions should they take office after the next general election, particularly as all devolved block grants will almost certainly be cut anyway in proportion to the ramping down of UK public expenditure from next year to cope with the ballooning of the national debt. Fourthly, any tweaking of funding arrangements within the UK is likely to give rise to fresh calls for some of the other constitutional anomalies affecting England to be remedied, which the current Labour government would like to avoid in their own self interest, particularly as in the lobbying that would inevitably be made to the proposed independent Commission with respect to how funds should be shared out, someone somewhere would need to be seen to be standing up for people in England in the same way that the devolved administrations would undoubtedly stand up for their own people.
The fact is that devolved government has heightened sensitivities between the constituent parts of the UK and this has resulted in the making of revisions of the Barnett formula having become too hot a political potato to handle. "Do nothing" would probably be the favoured course for any government in the forseeable future.
The Committee recommend that the Barnett formula should be scrapped and a needs based formula substituted for it to distribute funding on devolved matters. The Committee have come up with their own formula based on a combination of the relative number of infants (under 5s), children (5s to 16s), pensioners (over 65s), the level of child poverty, household income, unemployment, disability, and mortality rates. It concludes:
"The main points of note here are as follows:
- On most measures, the levels of relative need in England and Scotland are quite similar (that is, the blue and the white lines are usually quite close to one-another). England has slightly higher levels in matters to do with children and poverty and Scotland has much higher levels regarding disability and mortality.
- With the main exception of mortality, need in Wales is usually higher than in Scotland (that is, the red line is usually outside the blue one).
- Reflecting its young population, need in Northern Ireland is high on the children measures and low on the pensioner measure. In this combination of highest need on some measures and lowest need on others, Northern Ireland is unique."
In comparison with the Barnett formula, the general effect is that on the Committee's needs measure, people in England would not see their position changed to any great extent in terms of share of overall UK resources, people in Scotland would see less, people in Wales would see more (although even now they receive more per capita than do those in England albeit less than Scotland) and I am not clear about the position on Northern Ireland - the Committee's proposal is probably broadly neutral for Northern Ireland because the administration there already receive considerably more per head than the rest of the UK under the Barnett formula. Broadly therefore, the Committee's proposed formula would transfer some of Scotland's block allocation to Wales.
What is the chance of this being implemented? Next to zero. The Treasury are against the changes: their spokesman said about the report "The Barnett formula has served the UK well over the years. It has proved to be a robust mechanism for allocating spending to the devolved administrations and has stood the test of time". This reflects Treasury evidence given to the Committee. Whilst David Cameron has recently made some noises about looking to revise Barnett, he has also said that this ought to be on the basis of consensus and generally agreed principles.
It would be unfair to label the Committee's proposed needs formula by reference to the axiom "Garbage in, garbage out". But any particular outcome under the Committee's proposals is highly dependent on what indexes of "need" are chosen and how they are measured. The Committee suggest that respective needs can be settled in accordance with recommendations made by a new "independent" UK Funding Commission. The problem is both that such a Commission could never and should never be independent because any needs-based funding formula requires taking a view on social priorities, which would inevitably and rightly have to be subject to political control, and that the temptation for politicians to tweak the inputs to achieve previously determined and desired outputs would probably be irresistible. By contrast, the Barnett formula is purely mechanical - find out what the uplift or reduction in England in any financial year has been on devolved matters, and apply a proportion of the same uplift or reduction to the block grant to the devolved administrations.
But the main problem, and the one probably causing the Treasury to pour cold water on it, is the likely impossibility of achieving agreement. First, the Committee's approach would not cater for those in England who, rightly or wrongly, see themselves as unfairly treated (an overlooked majority) as a source of subsidy for the rest of the UK. Secondly, there is no way that the Scottish government will do anything other than oppose it - their "remedy" to the Barnett formula is fiscal autonomy for Scotland. Thirdly, it is difficult to see the Tories, with their miserable Scottish representation, wanting to reignite claims that they are an "anti-Scottish" party by cutting Scottish block grant in comparison with the rest of the UK as one of their first actions should they take office after the next general election, particularly as all devolved block grants will almost certainly be cut anyway in proportion to the ramping down of UK public expenditure from next year to cope with the ballooning of the national debt. Fourthly, any tweaking of funding arrangements within the UK is likely to give rise to fresh calls for some of the other constitutional anomalies affecting England to be remedied, which the current Labour government would like to avoid in their own self interest, particularly as in the lobbying that would inevitably be made to the proposed independent Commission with respect to how funds should be shared out, someone somewhere would need to be seen to be standing up for people in England in the same way that the devolved administrations would undoubtedly stand up for their own people.
The fact is that devolved government has heightened sensitivities between the constituent parts of the UK and this has resulted in the making of revisions of the Barnett formula having become too hot a political potato to handle. "Do nothing" would probably be the favoured course for any government in the forseeable future.
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