Snap Analysis 22 November, 2023

Reform analysis: Autumn Statement 2023

Charlotte Pickles
Director

Today’s Autumn Statement was something of a general election starting gun: tax cuts for individuals, tax cuts for businesses. The rabbit was a 2p cut to employee national insurance.

But the positive spin — “in the face of global challenges, we have halved inflation, reduced our debt and grown our economy. As a country we are sticking to a plan that is working” — can’t mask a poor fiscal outlook. Compared to its March projections, the OBR is forecasting lower growth through 2026, which is unfortunate for a Chancellor who has just announced 110 growth measures.

Everyone knows that fiscal ‘headroom’ isn’t real money — it’s the gap between the fiscal rule you set yourself, in this case debt falling as a percentage of GDP in the fifth year of the OBR forecast, and the expected outturn — and in times of volatility is even more nebulous. Just a few weeks ago the Chancellor was expected to have around £13 billion in ‘headroom’, now he has around £20 billion. And he didn’t even have to do anything!

The really responsible approach would have been to bank at least a chunk of that headroom in case the fiscal winds reverse direction. A second option would have been to offset some of the inflationary pressures on departmental, and therefore public service, budgets. But if politics — and, to be fair, continuing cost of living pressures and a desperate need to stimulate business investment — demanded tax cuts, then the Government made some pretty good choices. The NI and full expensing measures are discussed below.

However, as everyone has noted, these cuts are in large part possible due to the revenue raising fiscal drag caused by a long freeze to the income tax and NI thresholds, and even tighter (read totally unrealistic) departmental budgets in the next Parliament. Day-to-day spending is now projected to increase by just 0.9% in real terms from 2025-6. Oh, and we now have a real terms cut to public sector capital investment (head, desk).

On public service spending, the OBR say that if certain budgets continue to be protected, the Treasury’s post-SR21 envelope for total RDEL spending would leave ‘unprotected’ budgets needing to fall by 2.3% a year in real terms from 2025-6. And if defence and aid spending increase in line with stated ambitions, unprotected spending would need to fall by an average of 4.1% a year.

With characteristic understatement the OBR tells us: “Overall, the Government’s post-Spending Review plans present a significant risk to our forecast.”

Which, of course, is one of the key reasons we need to stimulate growth — to pay for public services. And so to end on a less gloomy note, the Government have announced a whole raft of supply side reforms designed to stimulate investment and encourage work, some of which we highlight below and many of which we welcome.

Read on for the Reform team’s itemised analysis!

Charlie

Director

 

Accelerating high-growth sectors

While government may no longer have an explicit industrial strategy, funding announcements for “strategic manufacturing sectors”, which amount to £4.5 billion, signal a strong commitment to the UK’s world-leading industries — notably the life sciences, AI and green technology.

There is also recognition that where government provides this support, to maximise the return it gets, investment should be targeted at specific barriers to innovation and economic growth.

For example, in the life sciences, we know that clinical trial capacity is a major barrier to drug development, and so the Autumn Statement allocates £20 million to accelerating clinical trials for dementia treatments, and points to the potential of similar programmes for other conditions. In AI, where we lead the way in R&D and are home to globally leading companies, we are held back by the quality of our infrastructure (ranked 24th in the world) and specifically our “compute power”. The Statement commits £500 million to improving this, on top of the £900 million announced in March.

Alongside these sensible, growth-oriented investments, the Government has doubled down on its ambition to ensure a “pro-innovation” regulatory environment: accepting many of the recommendations in the review by Dame Angela McLean published today.

For example, it will support secondments between key regulators, academia and industry to help build a better understanding of barriers to innovation as well as genuine risks. It will also explore greater pay and condition flexibility for regulators so they can attract the specialist capabilities they need to succeed.

The big and very welcome tax cut for business came in the form of “full expensing”, first announced in the Spring Budget as a time-limited measure and made permanent today. This allows businesses to deduct the full cost of investing in machinery and IT against their profits, and is expected to generate billions a year in additional investment. The UK has historically had much lower rates of private sector investment than other advanced economies, and this is a positive step towards addressing that.

 

Unlocking pension power

The Government has had pension investment in its sights for some time, and the Autumn Statement progresses delivery of the Chancellor’s Mansion House reforms outlined in July.

Despite having the largest pension market in Europe, worth over £2.5 trillion, UK pension schemes do not invest enough here at home. This means that businesses lose out on capital and the economy loses out on growth.

A whole host of measures were announced today, including: launching a consultation on giving individuals a legal right to have contributions paid into their existing pension scheme when they move employer (building pot size); requiring the Local Government Pension Scheme to continue further consolidation, with the stated aim that all funds be invested in pools of £200 billion+ by 2040; establishing a growth fund within the British Business Bank (BBB) to give pension funds access to UK investment opportunities; establishing investment vehicles for pension funds via the Long-term Investment for Technology and Science (LIFTS) initiative; and setting the Local Government Pension Scheme (LGPS) a requirement that 10% of investments be in private equity.

On its own, the 10% investment in private equity by the LGPS is estimated to unlock around £30 billion.

However, it is worth a note of caution. UK pension funds have expressed concern with shifting assets into riskier products. And employers will likely have questions about the practicalities of having to allocate workplace pension funds into whatever scheme an employee requests.

 

Securing our future energy supply

It is well known that the UK is in desperate need of an infrastructure upgrade, and one welcome announcement in today’s Statement concerned the grid. Reforms aim to accelerate the building of new electricity transmission infrastructure (essential to switching from fossil fuels and moving to renewables), unlock new commercial developments and enhance the UK’s energy security.

The reforms announced include two main action plans: the Transmission Acceleration Action Plan (TAAP) to increase the supply of electricity and the Connections Action Plan (CAP) to reduce the stark delays when applying to connect to the electricity grid — both very important as the nation decarbonises and seeks to significantly increase electrification.

TAAP, published today, is the Government’s response to the report from the Electricity Network Commissioner and sets out an ambitious programme to halve the time it takes to build new electricity transmission infrastructure from 14 years to 7 years on average. TAAP would ensure the Government will meet its target of a fully decarbonised electricity system by 2035 whilst also ensuring that it could meet the electricity demand, which is expected to at least double, in 2050.

One key barrier to investment is how difficult it is for projects — such as infrastructure and energy projects — to connect to the transmission network. With the volume of applications increasing around tenfold in the last five years, the average delay is five years. CAP aims to tackle this, reducing the process time to 6 months by removing stalled projects from the queue and freeing up and better utilising existing network capacity.

Although the OBR did not score these measures due to a high level of uncertainty, analysis published by DESNZ, and reviewed by the Energy Systems Catapult, suggests that once embedded these reforms could increase investment by an average of £10 billion per year over the next ten years, provide modest savings to households (£15-25 annually from 2024-2035) and importantly increase the UK’s energy security by reducing its dependency on imported fossil fuels. And, of course, help us accelerate towards our ambitions of a "fully decarbonised electricity system" by 2035.

 

Boosting low incomes

The Statement also has lots to welcome for low-income households, and particularly low earners.

First, the Government will uprate all working-age benefits in full, meaning it will apply the September CPI inflation rate — not October, as some predictions feared — of 6.7%. This returns them to the real value they had on the eve of the pandemic. Secondly, from April 2024, Local Housing Allowance (LHA) rates will be increased to the 30th percentile of local market rents. This sounds technical, but is incredibly important in assisting low-income households. The measure brings more rental properties into scope and increases the maximum payable amount (families have been increasingly unable to afford their rent as the value of LHA has eroded). However, while this is good news in the short term, a new freeze is pencilled in from 2025-26 onwards, undermining its effectiveness over time as rental prices continue to increase.

The 2p cut to National Insurance Contributions (NICs) was the flagship measure for individuals. NICs will be cut from 12% to 10% for employees, and emergency legislation will mean we’ll benefit from January. This will cost a hefty £10.4 billion by 2027-28, and is funded by a boost in nominal tax revenues from inflation. The good news is that it is estimated to raise employment by 28,000 and puts money back into people’s pockets during the continuing cost of living squeeze: an average worker on £35,400 will receive a tax cut in 2024-25 of over £450.

The bad news is that because income tax and national insurance thresholds are frozen rather than increasing by 6.7 per cent in line with inflation, any reduction in NICs will be offset by more people being pulled into paying tax: in 2028-29 nearly 4 million additional individuals will be expected to pay income tax, 3 million more will have moved to the higher rate, and 400,000 more onto the additional rate.

Lastly, from April, the National Living Wage (NLW) will increase by 9.8% to £11.44 with the age threshold lowered from 23 to 21 years old. This represents an increase of over £1,800 to the annual earnings of a full-time worker on the NLW and is expected to benefit over 2.7 million low earners. This is the third largest percentage cash increase in the minimum wage during its 25 year history. For some people, this will be offset by a reduction in benefits due to the increase in their earnings, but for many it is another measure that puts more cash in their hands.

 

Making welfare work

The Back to Work Plan was actually announced last week, but its contents make up the lion’s share of the Government’s initiatives to tackle rising economic inactivity — there are now 2.6 million people on out-of-work benefits and not required to seek work, an increase of almost half a million on pre-pandemic numbers. As Reform has long argued, this is a huge waste of human potential and a massive economic cost.

One key announcement was a change to the Work Capability Announcement (WCA) (including the pre-announced removal of the ‘mobilising’ descriptor), which is scored as saving a billion a year between 2026-7 and 2027-8. Yes the reduction in the incapacity-related benefit caseload in the final year of the forecast is just 29,000, and only 10,000 are scored as moving into work. The savings come from paying less in benefits as fewer people are in the highest severity group. The OBR does make clear, however, that the behavioural response is a “key uncertainty”, rating the costings for the WCA changes “high”.

In contrast, the support focused measures are predicted to have a much bigger impact. 15,000 more people are expected to move into employment by 2028-29 as a result of additional investment in Universal Support (specifically targeted at disabled people); 10,000 move into work through the expansion in IPS (individual placement and support) schemes; and the expansion in access to talking therapies is also expected to see 10,000 more in work.

However, while this is positive, the trajectory for the incapacity-related benefit caseload is not. The OBR forecasts that the number of people claiming health-related benefits will reach 3.4 million in 2028-29.

 

Devolving for growth

It wouldn’t be a fiscal event without some devo/levelling up content, and today was no exception: the Chancellor announced four more devolution deals, meaning more than two thirds of people in England will be living in areas with devolved powers .

The Government has announced a new level 4 devolution framework that copies the powers agreed in the West Midlands and Greater Manchester ‘trailblazer’ devolution deals, including single local transport funding settlements and adult education powers, and opens this model up to other combined authorities. A new Scrutiny Protocol also sets out guidance for scrutiny and audit committees to hold local authorities decisions to account.

A good step in the right direction for securing single funding settlements for combined authorities is DLUHC’s offer for consolidated funding pots at the next multi-year spending review. Another good sign of progress is the Memorandum of Understanding between the Government and local partners on a single settlement fund for West Midlands and Greater Manchester combined authorities.

An interesting (and promising?) move is the offer for a ‘General Power of Competence’, which may give mayors and eligible institutions the power to act so long as it does not contradict statute. The Government also (narrowly, and with no guarantees) invites institutions to advise on changes to guidance or legislation to give local authorities more say over particular policy action that affects their area, but may not be essential government policy.