If state spending is rising, how can there be "cuts"?

The budget rises year after year. So why is the public sector getting squeezed? We explain the mystery

Here’s a condundrum. How can it be that government spending is rising, yet there are drastic “cuts” in each department?

It is a quandary that often embarrasses politicians. Recently Margaret Curran, MP for Glasgow East, was caught on the Daily Politics show claiming government cuts so far were in the order of 10%. Andrew Neil couldn’t believe his luck, teasing her mercilessly over her ignorance.

Why?

Here is government spending in cash terms (the pink bars are official estimates; data from HM Treasury and Tullett Prebon).

UK Public spending

Source: LondonlovesBusiness.com

UK Public spending

As you can see, spending is going up year after year after year.

This is why some commentators refuse to admit there are cuts.

In fact, using raw cash figures like this is a little misleading. As the price of goods and services rise they erode the purchasing power of the government’s cash pile.

So we need to adjust the government spending figures to account for the effects of inflation. The Consumer Price Index measure of inflation is currently 2.8 per cent. When you factor inflation into our numbers, real spending falls by £20bn over five years, from £688.3bn in 2009/10 to £668.4bn by 2014/15.

UK Public spending inflation-adjusted to 2010/11 prices

Source: LondonlovesBusiness.com

UK Public spending inflation-adjusted to 2010/11 prices

Now we can see the extent of government cuts. Over the course of this parliament spending falls three per cent in real terms, with most cuts scheduled for the second half of the Coalition’s term.

But hang on. We haven’t told the whole story yet.

There is another issue to deal with, one which gets overlooked.

Interest payments on the national debt.

When the UK borrows money it issues interest-bearing bonds called gilts. We currently have gilts in issue valued at more than one trillion pounds (£1,185bn as of 25 June 2012, mostly owned by pension funds and insurance companies).

As the UK borrows a further £480bn over the course of this parliament the interest payments really start to stack up (grey bars are estimates).

Interest payments on the national debt

Source: LondonlovesBusiness.com

Interest payments on the national debt

Paying the interest on the national debt is a drain on public finances. As these payments rise the government must divert money away from health and education and direct it towards servicing the debt.

Combined, inflation and rising interest payments on the national debt are the real culprits behind the “cuts”.

They account for the contradiction between rising government spending and falling departmental buying power.

The interest payments alone are reason to weep. To put this year’s interest payments of £50.9bn into context, it is more than double the transport budget (£20.9bn) and a shade more than the defence budget. Raising the money to pay the interest on the national debt is a painful business. It will consume every pound of corporation tax paid in the UK for the entire year (estimated £49.3bn).

So let’s look at one final chart. This one will show government spending adjusted for inflation, and with the interest payments on the national debt stripped out. It portrays the genuine ability of the government to buy useful goods and services.

Compare it to the first graph at the top of this article (which was unadjusted for inflation, and included interest payments in total spending) and you can see why, despite rising total budgets, the government is having to shrink the army, freeze public-sector pay and sack legions of regional diversity co-ordinators.

UK Public spending, adjusted for inflation and excluding debt interest payments

Source: LondonlovesBusiness.com

UK Public spending, adjusted for inflation and excluding debt interest payments

PS: These graphs also show how odd it is to talk of a “massive fiscal shock”. Although certain government departments may be having to make large savings, the total amount spent by the government - including interest payments - has barely fallen to date.

Readers' comments (3)

  • There's one other factor that may be missing here: capital spending. That's down about £10 billion on top of any other cuts.

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  • Rob: The decline in capital spending has had a significant impact on economic growth. The services sector has been doing Okay since 2010, but the construction industry is suffering as public money is re-routed from capital spending (such as the school building programme) to paying the interest on the national debt.

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  • The author has failed to notice an elephant in the room: how the money supply is created. The UNDERLYING reason why "state spending is rising" and why it can ONLY ever rise without money reform is because 97% of the UK money supply is created as private debt (i.e. credit creation, via bank's deposit account creation, which circulates as purchasing power in identity and interchangeable with note & coin - whether electronic, paper or metal). The interest owed is not created with the principal. Money (credit created as debt purchasing power) used to pay off loans is destroyed causing the money supply to contract. If all debt was paid back there would be no money in circulation. And the interest would still be owed. The only way the public can create money for trade is to ‘borrow’ it. The interest attached is never created. So someone else must ‘borrow’ it into circulation, and the cycle continues towards HEAT DEATH. This is absolutely INSANE. The response of doggedly chasing the rainbow of "austerity measures" will shrink the money supply guaranteeing economic stagnation & decay, and is equally INSANE. Of course the private sector could take up the slack. But bank's won't lend. That's why its called a credit crunch. Or a liquidity crisis. And only around 8% of lending by banks in 2010 went to productive investment. Our money supply system is indistinguishable from a criminal fraudulent Ponzi scheme. It is a game of musical chairs where some are bound to loose, and a tiny minority are bound to win. It drives the ever accelerating wealth gap. For example 23 percent of the richest 10 percent are bankers. Every price contains a certain amount of interest, depending on the share of capital deployed per unit of output. On average, people in Germany in 2008 paid about 45% interest in the prices of goods and services they need for their life.

    Notes and coins issued by the Bank of England account for less than 3% of total money supply, down from 17% in 1948. Government could easily reverse this trend and emit new money - as debt-free electronic note & coin - instead of issuing interest-bearing gilts and solve many problems at a stroke. Such new debt-free money should only be used to finance public spending on necessary welfare, sustainable infrastructure, and an unconditional basic income for all with working hours reduced, rather than increased. It should only be used to finance public services that actually benefit the public. Not in a Keynesian manner as a vehicle for generating private profit, or to create unnecessary, bureaucratic, repressive, or wasteful wage-slavery. It could also pay down the £1,185bn of national debt simultaneously reducing the interest burden.

    "The essence of the contemporary money system is creation of money, out of nothing, by banks often foolish lending." Martin Wolf, Financial Times, 9th November 2010

    "When banks make loans, they create additional [bank] deposits for those that have borrowed the money."
    Bank of England Quarterly Bulletin 2007 Q3, p377

    “It is well enough that people of the nation do not understand our banking and money system, for if they did, I believe there would be a Revolution before tomorrow morning.”
    Henry Ford, founder of the Ford Motor Company.

    http://www.positivemoney.org.uk/our-proposals/
    http://userpage.fu-berlin.de/~roehrigw/kennedy/english/chap1.htm
    http://therightthingtodo.co.uk/index.php/2012/04/mind-the-gap/
    http://www.neweconomics.org/projects/monetary-reform

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