Can the long-term decline in government investment spending be reversed?

Investment spending vs social security spendingIf actual government investment spending bore any relation to the amount of time politicians spent talking about it, Britain would surely have one of the highest rates of government investment in the world. In fact, for all the talk there are few signs of a reversal in one half of the most notable trend in Britain’s public finances over the last half century: the decline of government investment.

I say one half because there is another part of the trend, and it is the flip side of the same coin: the general trend of increasing spending on social security.

The chart above* shows government investment and spending on social security (state pensions, disability and unemployment benefits, family tax credits etc) since the late 1950s, and the trend is immediately obvious: from broadly similar levels of spending on investment and social security in the 1950s and 60s to, broadly, big falls in investment spending and large increases in social security ever since.

This chart does not include spending on the NHS which, if included, on a broad definition of social security, only confirms the trend.

In government, the Liberal Democrats sought to push for increased investment spending and excluded such spending from our commitment to further deficit reduction at the last election.

Yet the trend presents an enormous policy-making challenge, particularly in the context of the UK’s demographic changes, notably an ageing population.

Tax revenuesSince the mid-1970s, the UK’s tax take has remained remarkably stable, broadly within the range of 32-36% of GDP, despite big changes in various tax rates within the same period.

Any realistic discussion, therefore, has to be set in the context of it being highly unlikely that significant increases in government tax revenues over one or two percentage points are achievable.

That combination — of an ageing population and an inability to raise statistically significant additional sums through taxes — begs a crucial question: is there any hope of reversing the long-term downward trend in investment spending?

The increase in social security and health spending is not all demographically-driven: much of it is due to a political choice, which in theory can be reversed. But it is a path strewn with difficult and probably impossible political decisions, as the past few years demonstrate. The current combination of demographic pressure, few additional efficiency savings and austerity-fatigue make real terms reductions to any of the country’s social security infrastructure all but impossible.

Indeed the opposite — large increases in health and social security spending as a proportion of GDP — seems inevitable. Switching even a percentage or two of social security spending to investment is likely to be unachievable.

How, then, can investment spending be increased? With returns on government bonds at near record lows, borrowing is an obvious solution, and clearly has a role. But for a country still running a significant deficit and paying large amounts to service already accumulated debt, it can only be part of the solution. Borrowing cannot reverse the long-term trend.

Another part of the solution must surely be for private investment to play a greater role in the delivery of what have in the past been areas left almost entirely to the state. For instance, Britain has hardly any privately-built toll roads, particularly compared to our European neighbours.

But the starting point must be a recognition of the reality of the situation. We have become accustomed to large, and increasing, proportions of state spending being dedicated to our current health and wellbeing, to the extent that significant amounts of money go to those who don’t really need it in the form of universal benefits (including state pensions). Yet we rarely acknowledge the role that this trend has had in diverting money away from the investment spending that brings future returns, that makes us better off not just in the present but in the future too.

And ultimately, until as citizens we recognise, and seek to balance, that trade-off we will continue to sit in traffic jams with the radio on, listening to politicians promise investment spending that will never become a reality.

*The data from the chart above comes from here (pdf) The investment spending data is net public sector investment excluding financial interventions.

* Nick Thornsby is a day editor at Lib Dem Voice.

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25 Comments

  • Adam Corlett 21st Mar '16 - 1:43pm

    Without going into the big issues, a couple of quick thoughts:
    – you have to consider the shrinking role of the state when looking at the historic investment figures: if you privatise lots of utilities then public investment will obviously go down (even if the investment continues!)
    – re. “investment” – it’s not obvious that capital spending on Trident, for example, is great for the future but that money for parents to spend on their young children is irrelevant to our future prosperity…

  • Those are, of course, big issues, Adam, probably as big as that raised by Nick. We must really look deeply at the conventions our accountants use, and the “rules” used to control our lives. One such, you touch on with your comment about Trident, ie do we still need to make a distinction between “capital” and “revenue” spending? Bearing in mind that revenue spending actually helps to maintain a long term investment.

    We may need to assess how useful having such a large cadre of accountants really is, given the exponential expansion in their numbers over the last years, and the skewing of spending priorities that they and their conventions have brought about!

  • Tom Papworth 21st Mar '16 - 2:30pm

    Good article, Tim. It’s a very important issue and one that we need to tackle – the UK repeatedly gets rated down in international competitiveness rankings for the woeful quality of its infrastructure.

    Some thoughts:

    1) As Adam notes, part of the trend over 60 years is the decline in the role of the state. We don’t invest much in Steel Works and Ship Yards these days (thankfully!); that is the role of the private sector. An interesting and important aspect of that is housebuilding: it’s no coincidence that the peak in investment mid-century was at the time of our highest post-war housebuilding (which was state led).

    Which brings us neatly to…

    2) Private sector investment is exactly where we should be looking. Take housebuilding for example. The mid-century housebuilding peak was matched by the inter-war peak, but between the wars the huge housing boom was largely privately funded (and delivered much higher quality and more popular homes). Rather than looking to tax-and-spend or borrow-and-spend, government should be looking to encourage greater private capital investment. The tax regime is fairly benign, now, but the planning regime is a disaster. We need to make it a lot easier and smoother to deliver both large (e.g. airport) and small (e.g. housing) developments.

    3) There is a macro question here, too. In some quarters it is assumed that any government investment is good government investment: after all, Y=C+I+G (plus net exports), right? In fact, what matters is return on investment (ROI). Fortunately, the UK has done such a poor job on infrastructure that there is plenty of low-hanging fruit around. But we should always bear in mind that ROI is king.

    4) Which brings me to the final point. Your statement that “Borrowing cannot reverse the long-term trend” may be too absolute. Borrowing that contributes to growth can reduce the debt-to-GDP ratio. However, it cannot do so overnight.

    I would therefore suggest that the Lib Dems were right to seek to exclude investment from fiscal consolidation, but that – contra Gordon Brown – we need to be rigorous about what counts as “investment” and what is an acceptable ROI.

    Meanwhile, there is a huge freebie waiting to be seized through the near-costless (in fact, probably cost-saving) removal of regulatory barriers to private investment, most notably in planning.

  • Tom Papworth 21st Mar '16 - 2:31pm

    Wow! That was almost an article in itself.

    My apologies.

  • Paul Holmes 21st Mar '16 - 3:23pm

    Not quite that clear cut on housing Tom. Much of the inter war house building was for the (growing) minority of people who could then afford to buy their own homes. But there was also, following Lloyd George’s legislation, a lot of good quality Council House building too. After WW2 there was a lot of Council House building (100,000 a year under the Tories!) not least to replace privately owned rented slums. Whilst levels of private sector house building have on average remained pretty constant over the last 60 years it is public investment in social housing that has crashed in a pretty uniform way regardless of who was in power from Thatcher onwards.

  • A Social Liberal 21st Mar '16 - 4:00pm

    What is the subtext behind this article? Is it that spending on the vulnerable is too high, that it is too low? Is it that we should be finding ways of paying for increased welfare provision or that we should just let the vulnerable suffer?

  • Nick T Nick Thornsby 21st Mar '16 - 4:10pm

    A Social Liberal – what makes you think there is a subtext?

  • It reads to me like you want to take the pension away from the well-off and spend it on road-building. Not exactly vote winners! The universal pension idea came from the realisation that means-testing costs more than the pension money saved. You may disagree but the numbers were already crunched. As for road-building, the environmentalists killed that off, not the tories. One might notice also that house-prices have risen in no small part to green motivations; ie the planning process and greenbelt protection, where our due diligence manages to prevent many ugly muddy fields from ever providing decent, affordable housing. Somehow France (despite many other deficiencies) manages to provide development land & housing to the individual, rather than just to the large conglomerate, at extremely reasonable prices without all this planning delay and you even get a choice of house style (mostly bungalows) rather than remain stuck with the tiny, red-brick, multi-storey Legoland schemes that UK developers favour.

  • Nick T Nick Thornsby 21st Mar '16 - 4:43pm

    James – I accept the point on means-testing of pensions. Although I am not a fan of the triple-lock (or at least the wholly arbitrary 2.5% element).

    I’m really trying to make a more general point which is that we might talk about the need for more public investment but if we’re not willing to shift current spending (which is largely on social security, health and education) then we need to think of other means to achieve the same end.

  • A Social Liberal 21st Mar '16 - 4:44pm

    Because the statement of a fact is just that Nick. What would be the reason for stating that fact?

    So why did you tell us that spending on the vulnerable was as it was – because you just thought that some of us might not know? The subtext might be that you think that it is too high and so should be brought down whilst increasing investment spending or it could be that you believe we should increase income tax to cover the rise in spending.

    In short, there has to be a reason you submitted this article, all I did is ask people to consider why you did it since it was not obvious.

  • Nick T Nick Thornsby 21st Mar '16 - 5:00pm

    A Social Liberal – I wrote the article, surprisingly enough, because I thought it might prompt an interesting debate (about what I actually wrote about rather than any “subtext” or malign motivation that you wish to infer). Have you actually got anything to say of substance?

  • Tom Papworth 21st Mar '16 - 5:32pm

    Paul,

    Statistics on inter-war housebuilding are not easy to come by but p4 of this University of Oxford paper is useful. http://www.nuff.ox.ac.uk/Economics/History/paper38/speight.pdf

    Basically, the private sector out-built the public sector in every year from 1923 to 1939. In fact, even if one strips out subsidised private-sector housing (the blue bars), then just non-subsidised private-sector housing outstrips public housing in every year.

    By the 1930s public sector housing has pretty-much disappeared as a source of supply, whereas the private sector peaked at over 300,000 units a year. (And this at a time when the UK’s population was only three quarters what it is now.)

    I agree that post-WW2 there was a huge public sector investment in housing – that was rather my point, as this massively boosted the public sector investment figures to which Nick referred.

    The fact that “Whilst levels of private sector house building have on average remained pretty constant over the last 60 years it is public investment in social housing that has crashed in a pretty uniform way regardless of who was in power from Thatcher onwards” is broadly true, but it is too often taken to mean that decent levels of housing delivery can ONLY be delivered by the public sector. This is patently not true, as the interwar record shows – the private sector delivered over 300,000 units a year at a time when the UK’s population was only three quarters what it is now.

    I would add that it is not at all surprising that a lot of people make that inference. Almost every article that discusses this question uses 1945 as a baseline for housing stats, rather than 1919. It is as though the inter-war housing boom has been purged from the public consciousness.

  • Tom Papworth 21st Mar '16 - 5:34pm

    CORRECTION: Where I referred to the blue bars I meant the red; where I referred to the yellow I meant the blue.

    That’s not at all confusing!

  • Paul Holmes 21st Mar '16 - 6:11pm

    Of course it’s not just about numbers of houses but purpose and cost too. The Private sector has never at any point in history provided remotely enough decent housing at an affordable price for low income people. Why would it as more profit is to be made from those who can afford to buy (or rent better quality).

    Hence public investment in housing both stimulates the economy and can provide decent social housing with all the benefits that would bring to a sector of the population otherwise facing B and B accommodation, school uncertainty for children, short term leases, rent exploitation, overcrowding and so on.

  • Tom Papworth 21st Mar '16 - 6:56pm

    Interestingly, Paul, that is not what the Oxford paper finds: “This paper uses a broader and more reliable collection of evidence to show that ‘working-class’ households broadly construed bought a large proportion of new houses”.

    We are in danger of drifting from the initial point, though. House building was undoubtedly an important component of the figures in the 50s-70s but there is no reason why similar levels of investment could not be encouraged from the private sector, delivering both the housing and the growth we need.

  • Thought provoking article, and backed up with graphs. Good work 🙂

  • Paul Holmes 21st Mar '16 - 9:37pm

    Hi Tom, don’t see how that contradicts anything I wrote. Clearly people who could afford to buy houses bought houses. I was talking about those who can’t.

    As for your latter point the New Labour Governments thought that forcing Councils to hand their housing assets over to Housing Associations and restricting access to any Govt funding for Social Housing purely to HA’s would ‘leverage in private sector investment and sweat the assets’. Didn’t happen.

  • Peter Davies 22nd Mar '16 - 6:25am

    That part of universal benefits that go to “people who don’t need it” are actually going to the tax-payers who fund them. However pointless it may sound, there is no limit to how much of their own money you can give people.

    The major genuine rise in benefit cost beyond demographics is the rising cost of housing benefit. This is down to a housing shortage caused by a lack of both public and private investment. Land value taxation would give the private sector an incentive to build and the public sector the funds to do so.

  • I am very interested in the arguments that the Government cannot increase it’s tax take significantly and that benefits cannot be targeted as that would cost more than any savings made. I would love to know where the evidence for these assumptions comes from because as a cynic I wonder who benefits as a result. The answer is, of course, the typical Tory or New Labour voter, well off or comfortable, who’s wealth isn’t subject to greater taxes whilst s/he can receive benefits as additional income that poorer people are expected to live on.
    I would like Lib Dems who are cleverer than I am to look at both these arguments and test the evidence with rigour because governments have expected services to be provided with less and less expenditure but no one seems to apply this thinking to raising taxes.
    We live in a high tech society where high street chains and supermarkets keep information on our spending habits in order to prompt further purchases and where this government expects to be able to access much of the information about our lives. Why, then, is it so difficult to record our incomes and target benefit where it is needed and tax to a level that funds expenditure on both social security AND investment. An interesting and thought provoking article.

  • Peter Davies 22nd Mar '16 - 8:01pm

    If anyone is arguing that tax take cannot be increased significantly, they are talking nonsense. It has been higher historically and it is higher in other countries. Some taxes however can get to a level where putting the rate up brings in no more money because people stop doing whatever you’re taxing. There are however some taxes which are nowhere near this level. Land could be taxed without reducing the county’s land area and higher death duties wouldn’t stop people dying.

    One tax that has reached that limit is what you call ‘targeting benefits’. When people earn more, their benefits are withdrawn often at rates of more than 100%. Not surprisingly, some people are reluctant to work for less money than they could get on benefits.

    On targeting benefits

  • Good article. Now that the government is providing a decent, state-provided pension, we might think about taking back tax cuts for rich pensioners investing in their own private provision. Also, perhaps we should give some credit to John O’Donnell who called for balancing the current account while boosting investment spending. Good politics and policy.

  • Neil Sandison 24th Mar '16 - 11:21am

    Investment in infrastructure has to be a priority .We can have all the garden cities and villages in the world but if they are not joined up by good road, rail and communications links then they will just become isolated commuters belts and congested back waters .Even our existing urban areas are showing the strains with real concern about where the link roads ,schools ,GP surgeries will come from to deliver the local plans by 2017 .With low interest rates ,an opportunity to develop infrastructure bonds exist from the financial sector underwritten by local government and private developers without viable and sustainable infrastructure most local plans whilst agreed by 2017 will require re-writing again by 2020 because the build out has not met expectations or provided the infrastructure needed for delivery.

  • jedibeeftrix 24th Mar '16 - 7:29pm

    @ Peter Davies – “If anyone is arguing that tax take cannot be increased significantly, they are talking nonsense.”

    Is someone arguing that the lib-dems will advance their seat take with a higher tax

  • Peter Davies 25th Mar '16 - 4:20pm

    It was an economic answer to Sue’s economic question. As it happens though, the last time we went into an election promising to raise the tax rate it proved a vote winner.

  • Paul Holmes 25th Mar '16 - 5:09pm

    Our 3 best G Election results (MP’s elected) in modern history were successively 1997, 2001 and 2005 -when we featured on policies like Penny on Income Tax and a 50p Higher Rate.

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