David Eiser, Fraser of Allander Institute
The new Chancellor faces a difficult balancing act in preparing his first Autumn Statement.
On the one hand he will face pressure to mitigate the risk of a post-EUref slowdown in the economy. Increases in infrastructure spending or targeted tax cuts would be the obvious antidotes to post referendum uncertainty, but he may also face pressure from Number 10 to follow through on the Prime Minister’s commitment to help the nebulously defined Just About Managing Families.
At the same time, the Chancellor will want to stress the continuing importance of fiscal prudence in order to reduce public sector debt from what Hammond himself has described as its ‘eye-wateringly high level’.
But how the Chancellor decides to respond to the fiscal and economic challenges he faces will also still have important implications for the Scottish Government’s budget. We’ll be publishing a short summary after the Chancellor’s statement and discussing the key issue in greater detail at our post-Autumn Statement briefing on Friday.
The most obvious way in which the Autumn Statement will affect the Scottish budget is through changes to the Scottish Government’s block grant. The outlook for the Scottish block grant is determined by changes in comparable departmental spending in England set out by the Chancellor.
Back in March, the plans set out by then Chancellor George Osborne in his Budget projected the Scottish Government’s block grant for resource spending to fall by 3.5% in real terms between 2016/17 and 2019/20. The Scottish Government’s grant for capital spending was expected to increase slightly in real terms over the same period.
The outlook for the Scottish block grant was driven by George Osborne’s self-imposed target to achieve a fiscal surplus by 2019/20.
Phillip Hammond has said that he will ‘reset’ fiscal policy. There has been much speculation about what this might mean in practice.
The mood music from Number 11 increasingly points to a moderate increase in capital spending – relative to what was set out by George Osborne in March – perhaps alongside a revised fiscal rule that targets a surplus on current spending but allows the government to borrow for capital spending. Increases in capital spending by the UK Government in policy areas that are devolved to Scotland will generate consequential increases in the Scottish Government’s block grant.
But since taking office in the summer, Phillip Hammond has continued to emphasise his view that there remains a job to be done to further reduce the UK’s fiscal deficit (forecast by the OBR in March to be 2.9% of GDP in 2016/17, but likely to be revised up on Wednesday). In this context it seems unlikely that a ‘fiscal policy reset’ will involve significant changes to departmental resource spending, relative to the plans Osborne set out in March. But whatever changes there are (upwards or downwards), will feed through to generate consequential changes for the Scottish block grant.
The economic forecasts published alongside the Autumn Statement by the OBR could also have important implications for the Scottish budget. The depreciation in the pound will see the forecast for inflation revised up. Higher inflation erodes the future real terms value of a given cash terms funding allocation. It also makes a spending commitment expressed in real terms (such as the Scottish Government’s commitment to spend £500 more than inflation by the end of the parliament, or to maintain real terms spending on police) more difficult to meet.
Of course as well as the block grant, the Scottish budget is becoming increasingly dependent on revenues from taxes devolved and assigned to the Scottish parliament. Under the complex rules of the Fiscal Framework, what matters here for the Scottish budget is not simply the revenues raised from the devolved taxes, but the relative growth rate of the revenues devolved to Scotland compared to the growth rate of equivalent revenues in the rest of the UK (rUK).
The OBR is likely to revise down its revenue forecasts for the UK as a whole. But this in itself may not spell bad news for the Scottish budget outlook. The Scottish budget is protected from revenue shocks that hit the whole of the UK equally. It is not until the Scottish Government publishes its own revenue forecasts alongside its Draft Budget in December that we will get a real sense of what the devolution of tax revenues to Scotland might mean for the 2017/18 budget.
It is possible of course that Phillip Hammond might use the Autumn Statement to announce tax policy changes in rUK for taxes that are devolved to Scotland. Any such changes will pose a dilemma for Scottish Finance Secretary Derek MacKay in preparing his Scottish Budget – to follow the UK policy or not? Last year’s Autumn Statement saw the announcement of a Stamp Duty supplement for owners of two or more properties in England. The announcement triggered John Swinney to propose an equivalent policy – the Additional Dwelling Supplement – which was hurried into legislation in time for the 2016/17 financial year.
So Wednesday’s Autumn Statement has important implications for the Scottish Budget not only in terms of the block grant, but also in terms of the wider economic outlook and the interaction between UK and Scottish tax policy.
Traditionally the Draft Scottish Budget has been published in September. This year, the Scottish Government argued that the Draft Budget should published after the UK Government’s Autumn Statement, such is the uncertainty around what it might contain.
By Wednesday we will have a little more certainty as to the economic and fiscal context for the Scottish budget, at least in 2017/18. But the longer term outlook for the economy and the public finances is likely to remain highly uncertain, particularly when the terms of the UK’s exit from the EU – let alone the timetable – remains to be negotiated.