Podcast: Medium-Term Financial Strategy June 2025

Timestamps

(2:08) What does the medium-term financial strategy do?

(8:47) Financial strategy across spending areas

(18:04) Public sector reform

(25:06) Looking ahead to the Scottish spending review

Transcript

00:00:03 Ben Cooper

Hello, 2025 marks a significant year for the Fraser of Allander Institute. Founded in 1975, the Institute celebrates 50 years of leading economic research in Scotland. Given this, we have a series of exciting events and content planned for the remainder of this year to mark this milestone.

This includes our anniversary conference on the 18th and 19th of September this year at the University of Strathclyde’s Technology and Innovation Centre. We have a number of speakers and themed sessions planned for the day in order to highlight the breadth and importance of the Economic Research being conducted across Scotland.

As well as this we have a number of other events planned, including our reception at the Scottish Parliament in December and one at the Scotland Office in London in October.

You’ll also see some unique content published in the coming months, including a podcast series with past institute directors and some articles on the history of the Institute, as well as some other eye-catching covers from some of our reports from over the years in the coming months.

In order to be kept up to date with any of these events and to be the first to know about our 50th anniversary publications, visit our website, fraserofallander.org and you can join our mailing list.

If you are interested in engaging with us also, whether you previously work for or with the institute, why not get in touch? We have a designated 50th anniversary e-mail fraser50@strath.ac.uk. We hope you’re as excited as we are and look forward to celebrating this exciting milestone with as many of you as possible.

00:01:34 Hannah Randolph

Hello, and welcome back to our latest Fraser of Allander podcast.

I’m Hannah Randolph, an economist here at the Institute, and today I’m joined by FAI Director Mairi Spowage to talk about a suite of publications from the Scottish Government in the last few weeks on their fiscal plans and strategies.

So the publications included the Medium-Term Financial Strategy, or MTFS, the Fiscal Sustainability Delivery Plan, and the Public Service Reform Strategy.

00:01:59 Hannah Randolph

So to get started, we haven’t had an MTFS publication in two years because last year the planned publication was delayed due to the UK general elections.

So Mairi, what does the MTFS do?

00:02:12 Mairi Spowage

So I suppose there’s sort of what it’s supposed to do, and then generally what it has done, which might be different things.

And just apologise for our listeners right up front about all these different letters and plans. I mean, for those who are confused between them, it’s not you that’s at fault.

There are potentially, when you look at the purposes of the different plans, overlaps, and one could argue with some of them whether they’re all necessary separate documents.

00:02:40 Mairi Spowage

But the MTFS itself was introduced when the sort of budgeting round for the Scottish Government became much more complex in the wake of the devolution of much more tax and social security powers.

And our kind of budget envelope and so on became much more determined by the forecasts that are produced by the Scottish Fiscal Commission, you know, looking at not just what we were likely to get in the block grant from the UK government, but also what are we going to receive in receipts, what are we expecting to spend on social security payments.

So our overall budget process became much more complicated and determined by lots of different factors and not just what the sort of UK government had decided to spend on devolved services in England, which meant we got our Barnett-determined Block Grant. So much, much more complicated than it’s been in the past.

00:03:37 Mairi Spowage

And so this has been particularly since around 2016-17 when income tax was devolved, which is by far the biggest devolved tax.

So the parliament and the government wanted to work together to move to a kind of more year-round budgeting process so that parliamentary scrutiny was much more focused all year round on what different pressures on the budget might mean for the delivery of different policy outcomes involving not just the finance committee scrutinising the numbers, but also all of the committees in the parliament saying what the priorities should be for particular areas of spend. Given that there’s never enough money to do everything we want to do, of course.

And one of the main differences between the kind of post-2016 era of budgeting in the Scottish Parliament is that the budget was always going to generally be November, December time rather than what it had been in the past, which was in September.

So in the past, when it was just determined by the block grant mostly, that was when we would have the draft budget and then there would be quite a long time for scrutiny before the start of the financial year before the budget was voted on and agreed.

00:04:53 Mairi Spowage

Because the budget’s much more determined by forecasting of income tax receipts and social security payments, and crucially, the adjustments that are made to the block grant to reflect the fact that these have now been devolved, which relies on the UK budget or the UK autumn statement in previous years, which is done in November, we need to do the budget later, which constrains scrutiny time considerably in the Parliament.

So we move to, you know, this process, thinking about how the Parliament could be looking at these issues year round.

And so kind of what the MTFS is supposed to do in the spring is to produce not only a new set of forecasts for Scotland, which are consistent with the OBR’s forecasts that are published generally around March.

So we have the sort of latest understanding of what’s going on in the Scottish economy and what, you know, the outlook for tax receipts is, but also a statement from the government where they say, these are the kind of fiscal challenges that we’re dealing with.

Here’s our kind of strategy for how we were going to tackle them, which will then inform those discussions that committees have in their pre-budget scrutiny.

00:06:05 Mairi Spowage

So we’re not sort of waiting just once a year to think about these things, but we’re thinking about them all year round. And we have that other set of forecasts which are consistent with the spring forecast that the OBR produces.

Whether the MTFS has really kind of performed that function, I’m not sure.

We’ve given evidence and given our thoughts to the Finance Committee’s inquiry into the Scottish budget process that they’ve been doing over the last few months about this.

Because while often the MTFS has set out essentially that the government feels it’s not enough money to do all the things it wants to do, one could say that that’s always true of any government. And we haven’t felt in the past that the government have always been transparent about how they’ve come up with that figure of, well, this is what we need to spend. And there’s a gap between that and what we’re going to have to spend.

00:06:57 Mairi Spowage

So, you know, what do we do about that? I would say that some of those issues probably have been addressed in the latest document, to be fair, in terms of, certainly in terms of the transparency.

I mean, I feel like I understand much better how those sorts of numbers are come up with now. But it sort of remains to be seen how useful the document’s going to be for framing those discussions over the next few months.

I will say though, the document was published yesterday afternoon, you know, around sort of 3pm, I think, or 3:30. It’s very long and it’s accompanied by other documents. So, you know, we still have to take time to consider the document and what its purpose is and whether it’s fulfilling that purpose. So I would like to do that in a more considered way.

But that’s the sort of potted history of why the MTFS exists and the purposes it’s supposed to play in the year-round budgeting process.

00:08:00 Mairi Spowage

Finally, just to say, I mean, the original plan was for this to be published at the end of May, and for the Parliament to have that kind of month of scrutiny before the summer break to kind of think about it, the Finance Committee certainly would have got the Cabinet Secretary in to talk about it.

The Scottish Government decided to delay it because of the spending review, but they only made that decision at the beginning of May. So that has constrained the extent to which the Parliament can now, you know, talk about this document before the committees go into the pre-budget scrutiny rounds, which they’ll kind of begin over the summer.

So that is a bit of a shame because it does mean that the scrutiny before the summer has been kind of less than it would have otherwise been.

00:08:48 Hannah Randolph

This is really setting the stage for that budgetary process, but potentially there’s not a lot of time for committees to take it into consideration before they actually start their own deliberations over that.

And I was struck by your point about, this sets out the difficult circumstances that government is facing when they’re setting their budget, but that tends to be fairly similar across years. So I’ve been at the Fraser for three years now, and I don’t think that there has ever been a period where either the Scottish or UK governments has said, you know, our fiscal situation is great, it’s smooth sailing from here.

So that, that does seem to be consistent across years. So in terms of the content of the MTFS, what struck you when you were going over it, keeping in mind that you haven’t had a huge amount of time to dig into the detail?

00:09:46 Mairi Spowage

Yeah, so the first thing I noticed is it’s 108 pages long, you know, to be honest, you know, your heart sinks a little when you’re supposed to kind of try and digest this and understand what it might mean.

And with the fiscal sustainability delivery report, which accompanies it, and then the public service reform document that came out last week, you know, this is 200 pages of stuff that has come out in the last week, which is related to, you know, the medium term financial challenge that the government is facing. So that’s a lot of stuff.

And, you know, sometimes I can’t help but compare it to things like, you know, the documents that the UK government put out at fiscal events, covering, you know, the whole of the UK and all of the tax and spending lines that they have, which are obviously much more complicated and vaster than the Scottish Government.

00:10:34 Mairi Spowage

And, we don’t tend to get documents quite of this length, despite the greater coverage that they’re sort of looking at.

So, I would say that the public service reform plan, I think I said this in the blog we wrote about it, was quite, it felt quite concise to me and quite focused. So yeah, I’m sure we would all plead for these documents to be a little bit shorter, if at all possible.

Having said that, what I was struck by was that some of the details on how the government had come up with its, this is what we think we will need to spend over the next five years, the next few years.

There was more detail on how they had come up with that than in previous years, which I really welcome. And it was really good to understand how they had sort of projected this is what we need to spend, and then how they compared that with what their likely funding outlook was.

And then in short, they had projected that many areas of spending would remain constant in real terms. So they’re uplifting the spending with the economy wide deflator to say, we assume that spending on this area will be the same in real terms as it is just now, except for a number of areas where they feel that that’s not going to be enough or it isn’t going to be acceptable for various reasons.

00:12:06 Mairi Spowage

So one of these is the health service, where I think at the last MTFS, they had assumed it would go up by something like 3 and a bit percent a year, actually it turned out it had been growing faster than that since the last MTFS. So they sort of baked in that faster growth, over 4% in growth in health spending over the next few years.

So that’s growing faster than other parts of spending and they assume that will continue.

Also pay, which is a big chunk, obviously, of spending. It’s over half of resource spending goes on pay.

They had assumed – they have brought into the current year’s figures the pay deals that have already been agreed.

00:12:52 Mairi Spowage

Assume those that have not been agreed yet will kind of broadly follow the public sector pay policy and then assume that broadly, this is my reading of it, you know, obviously at speed, that they’ve assumed that kind of the pay policy will sort of be followed broadly in the years to come, which means that pay bill is growing, you know, kind of more quickly than otherwise would be the case if you just assumed that that pay bill was growing with the whole economy, like other parts of the budget.

So that’s another, you know, pressure on the overall spending required.

00:13:31 Mairi Spowage

It is just a slight aside on pay – it’s interesting to see that the pay deals that have been agreed already mean that the public sector pay policy has been overshot in 2025/26 by 122 million already.

So, you know, it does lead to questions about whether enough has been budgeted for even for the current year for pay. But we’ll leave that aside.

00:13:58 Mairi Spowage

The final area where they sort of assume that the growth is likely to be faster than, you know, the economy as a whole is social security.

And we’ve talked a lot about the extra commitments that the Scottish Government have put in place for social security, not only on benefits which have an equivalent in England, like Personal Independence Payment and Adult Disability Payment, you know, we’re projected to spend more than we are receiving through the block grant adjustments to reflect the fact it’s been devolved, but also on new benefits.

So there’s a Scottish child payment, but there’s also the benefits that are styled as mitigations of UK government policy. So things like the new benefit that will be introduced to mitigate the two child benefit cap.

So these mean that the social security bill’s also growing more quickly and they sort of baked in what they know about how fast they think these different parts of the budget are going to grow.

00:14:52 Mairi Spowage

Added on top of that, all other spending will essentially grow, you know, with the economy. So say the same in real terms, but therefore grow.

And if they compare that, you know, add all that up compared to the funding outlook, there’s a big gap, as you would expect. So it’s useful to know how they’ve come up with that figure.

I may be wrong, but like, you remember in previous years, us trying to sort of puzzle out how they might have come up with this overall outlook for spending and, and now we know, or we certainly know how they’ve done it this year. Whether that’s reasonable or that’s a sort of neutral assumption is maybe another question.

I mean, we can see, in the UK government outlook, they have chosen to prioritise some areas of spending in the spending review, you know, particularly things like health.

00:15:44 Mairi Spowage

But given the envelope, you know, self-imposed, you know, with the fiscal rules that they have set themselves, you know, therefore other things need to be cut, or they need to be grown less quickly or they need to be grown perhaps not in legal terms or flat cash or whatever, and these are decisions that governments have to make – to sort of govern is to choose.

Because obviously the consequence of growing every budget, so keeping it flat in real terms, except for all of these big budgets, which are also growing much more quickly, is that, you know, the government spending becomes a larger and larger part of the economy. And whilst that has happened to a certain extent in recent years, and may have to happen given the additional demands that we’re likely to put on the public sector in years to come, whether that can always happen to this sort of extent seems to me an unreasonable assumption and probably not an neutral assumption about growth.

00:16:42 Mairi Spowage

If you spend much more than inflationary uplifts on social security and health, and they are chunky budgets, they’re very big and they’re a very big part of the budget, and on pay, you know, other things are going to need to take the strain, I would imagine, for budgets to be sustainable. And I don’t think that that’s a particularly surprising conclusion.

00:17:04 Mairi Spowage

So, I mean, some of the actions to deal with this perceived gap in what needs to be spent and how much money the Scottish Government are likely to have are set out in detail.

To be fair, another thing that’s kind of new about the package of stuff that was published yesterday are the sorts of actions the Scottish Government plan to take to try and, you know, to dampen down this growth in spending over the next few years, which was sort of part of the fiscal sustainability delivery plan, and were referred to heavily in the MTFS, but perhaps we’ll come on to speak about that additional document.

And again, you know, that’s generally not been a part of the MTFS, and so it’s welcome to see that in this document. So saying, this is the problem that we feel we have, and this is the, you know, these are the actions that we’re going to take to try and address those problems over the next few years.

00:18:04 Hannah Randolph

Well, and one of the areas that they laid out in the public sector reform strategy was to actually try to reduce the size of the public sector, which you would imagine could do something to bring down growth in public sector pay spending. But does that – what was your reaction to that? Does that seem achievable?

00:18:26 Mairi Spowage

I mean, many will point to the growth in the public sector over the last few years. And whilst much of it can be related to perhaps to COVID and what happened over that period, and, some of it is due to the Scottish Parliament taking on more powers over that period as well. So you kind of have to separate out the, growth in employment, which is reflecting the fact we have more powers than we did before.

So many will point to the fact that the civil service is much bigger than it was prior to the pandemic.

And the Scottish Government themselves set this out in 2021 and said, in the resource spending review, and said, our broad goal would be to keep the pay bill as it is now, which as pay grows, essentially means you’re reducing the size of the headcount, you know, with like a broad target at that point to get back to the sort of size we had before COVID, you know. I imagine accounting for the fact we have more powers, so thinking about how we get it back to that sort of level.

00:19:41 Mairi Spowage

They have a specific target, which is referred to in the fiscal sustainability delivery plan and in the MTFS of reducing headcount by 0.5% a year over the next few years, which, and the scale of the increase is pretty modest.

Now, they’re set out how much this is likely to save in terms of the overall pay bill. And it’s not insignificant amounts of money, that are likely to be saved from doing this. But there isn’t a huge amount of detail exactly how that’s going to be achieved.

So there’s a lot about, you know, redeploying people. And in the public service reform plan, there was a lot about shared services and other things. And there was also a target in the PSR plan on reducing kind of corporate costs by a billion pounds over the next five years as well.

00:20:38 Mairi Spowage

So to what extent those two things are kind of related – and what I’m trying to unpack and looking at all these plans and all these documents is when these savings are sort of referenced, to what extent are they the same savings or are they different savings, and are they kind of additive, you know, in terms of understanding the overall impact on the budget?

So they are committed now, like, in this plan they published yesterday, to reduce the size of the civil service, but it is fairly modest reductions over the next few years. And exactly how it will be achieved isn’t clear.

Often the civil service can do things that are actually quite inefficient in reducing headcount, which is freeze recruitment, people leave, they’re not replaced, and this sort of thing. Which is fine if you then reallocate resources to your priority areas and make sure that, areas aren’t under-resourced just because people have happened to leave from those areas.

00:21:37 Mairi Spowage

And that second part of it – and this is across the UK and many organisations, in fact, who sort of bear down on headcount by these sorts of techniques – they’re not necessarily good at doing that second part, which is making sure that they’re redeploying and reallocating resources to the priority areas. And often teams are just under-resourced because of bad luck, because somebody has happened to leave.

So, you know, to what extent that is going to achieve what they want to achieve – it might well achieve the headcount reductions, but, you know, you need to do that second part and make sure the resources are targeted then at the areas of priority.

00:22:23 Hannah Randolph

Yeah, because presumably you don’t want to simultaneously be delivering less in terms of services or other things that people are doing, because for the most part, people are not just sitting around twiddling their thumbs.

00:22:39 Mairi Spowage

Well, yes, and this is one thing which I think we’ve mentioned in recent weeks, and we talked about during the election campaign last year, is this sort of myth that people who are looking for, I’m using air quotes here, “efficiencies in the civil service”. You know, that there’s a bunch of people sitting around not really doing anything, who can be dispatched with and no one will notice.

I mean, I just don’t buy it. You know, of course, there are people who can be more efficient, there can be people who are more productive than they are at the moment, sure.

But the thought that you could cut the sort of money that’s been talked about from corporate costs, whatever that means, back office functions and so on without impacting on frontline services, I think is not right.

If you cut, for example, in a service delivery area, people who are doing these corporate functions, these back office functions, who’s going to do them? Do you think they don’t need to be done? So that, so perhaps the frontline staff are then going to have to do these things, which will make them have less time to do frontline delivery.

00:23:59 Mairi Spowage

Also, if we think about a move to prevention, which, you know, the public service reform plan last week talked about a lot, and it’s also mentioned again, you know, in the MTFS and the fiscal sustainability delivery plan, this is a key part of us becoming more sustainable.

Then maybe we need people thinking about how to divert resources from one area of frontline delivery to another, rather than just having, a civil service full of people who are just doing frontline services.

So it is a bit of a, it’s an easy target, and like many parts of the civil service, there’s no right of reply for these people. And it’s easy for politicians to say, oh, well, we’ll just get rid of these pen pushers that don’t do anything. There aren’t very many of those people.

And, you know, it is likely if there’s a billion pounds, like in the public service reform plan that says it’s cut from these costs, it’s likely it’s going to have an impact on frontline services.

00:25:07 Hannah Randolph

And so, you mentioned earlier, the MTFS sets out what the Scottish Government expects to happen in different areas of spend, and they’ll be putting out their own spending review later this year.

So we’ve just had the UK spending review, we’ll have a Scottish one later. What does the MTFS tell us about what we might expect in the spending review?

00:25:29 Mairi Spowage

So one of the annexes to the MTFS publishes the framework for the spending review. So they set out that, the multi-year spending review that was published on the 11th of June gives the Scottish Government key information which allows them to develop their own multi-year spending plans.

And what they’ve said is they’ve already begun work on this and they’ll publish the conclusions of their spending review alongside the budget in December. And they are intending to set out indicative spending plans for obviously for 2026-27, which is the budget year that we’ll see in December, but also for 2027-28 and 2028-29 for resource and that additional year for capital spending of 2029-30.

So in line with the sorts of years that have been set out by the UK government in the spending review.

So they’re trying to provide as much certainty as possible for the organisations that they fund. And there will be a kind of process of stakeholder engagement, they say. So between June and September, they’re going to be doing analysis of portfolio spending and development of spending plans alongside the stakeholder engagement.

00:26:52 Mairi Spowage

So there’ll be a lot, I imagine, of organisations talking to the Scottish Government to try and get them to ensure that they are funding different areas of spending properly.

And then in the run up to the budget, there’ll be a lot of, I imagine, ministerial discussions on the plans and, discussions between cabinet secretaries and others in the cabinet about how these spending plans can match up.

And then the conclusions of this will be published alongside the Scottish Government’s budget. So that’s good.

We will see that certainty, I suppose, that the Scottish Government have been given in terms of the spending that’s been set out, sort of passed down to the organisations that the Scottish Government funds, like the Scottish Government budget.

00:27:37 Mairi Spowage

But we do still have, remember, a UK fiscal event in the autumn to come. And whilst the spending review has happened, anyone who thinks, and you can look at some of the blogs we’ve written recently about this to see, anyone who thinks that then means that, you know, spending plans are absolutely set in stone for the next few years, that, that’s just not happening.

So, we may well see some further movement in overall envelopes in the autumn, or as many think, it might impact on taxation and so on, which could have an impact depending on the taxes chosen to look at by the UK Chancellor, but we shall see what happens.

00:28:23 Hannah Randolph

And we may see some movement even sooner than that, depending on what happens with the welfare reform bill, because a lot of what the Scottish government has set out in terms of their position on social security is based on those reforms going forward. And it could actually relax things a bit if that bill doesn’t get the support that the Labour government expected it to.

00:28:46 Mairi Spowage

That’s a great point, actually. Yeah. So – because the welfare proposals would cut spending on PIP in England, it would mean that the block grant adjustment will be smaller, so less good for the Scottish Government than it would have been in the past.

So yes, if the changes are relaxed and the block grant adjustment is larger than we’re currently expecting, then that will take some of the pressure off the Scottish Government.

The other thing that might change, actually, in the interim, and we should look out for this over the next few weeks, is that the next set of income tax outturn data is coming out in July, which is for, hopefully, I think it’s for the 2023-24 year. And at the moment, that’s predicted to have quite a big negative reconciliation to the Scottish budget.

00:29:43 Mairi Spowage

Now, that won’t affect this coming year. But it will affect the 2027-28 budget. So the current prediction is for – perhaps, this will be for the data that’s published next summer. We’d have a pretty big negative reconciliation. So the data that’s published soon will give us an idea of what the, the sort of direction of travel is and whether this is going to be an issue.

So that’s another thing to look out for in the next few weeks, which will tell us a little bit about what’s likely to happen over the next few years with the pressures on the Scottish Government’s budget.

00:30:30 Hannah Randolph

And why is there such a large negative reconciliation or why might you expect it?

00:30:39 Mairi Spowage

So the lags are massive here for this and they’re not applied to the budget until many years after the forecasts are done.

So, for example, the 2023-24 budget was set in December 2022. At that time, the Scottish Fiscal Commission perhaps had data, like outturn data for income tax for 2019-20 and 2021, 2020-21, and obviously those years are quite volatile for obvious reasons in terms of COVID and so on.

So they’re forecasting what’s likely to come in in income tax in that coming financial year. The OBR are forecasting what’s happening in England, which impacts on the block grant adjustments. These are two massive figures which can move around quite a bit.

00:31:31 Mairi Spowage

And so over the years, it’s become apparent, I think it’s actually for the 2024-25 financial year that those figures were quite far off, but not in the terms of income tax forecasting, which, you can regularly be out by 3 or 4%, it’s not unusual.

But because both of these figures are moving potentially in different directions, it can lead to quite big reconciliations of money terms to the Scottish Government’s budget.

So I think the current one for 2024-25, which will hit in 2027-28, the current prediction of the size of it is around 800 million pounds. That would be a negative reconciliation. So it’s something to keep an eye on over the next year.

00:32:22 Hannah Randolph

Okay, so still some uncertainties, even though MTFS has given us a bit more detail about how Scottish Government is setting up their projected spending and their different areas of what they expect to happen in different areas of spend to kick off that budget process.

So we’ll keep an eye on what’s happening with the welfare bill in the UK Parliament, and I’m sure we’ll be talking a lot this year about the budgetary process as we lead up to the fall, the autumn budget statement at the UK level and the Scottish budget in December.

So thank you, Mairi, for joining me today.

You can read more of our fiscal analysis on our website, fraserofallander.org. Thank you for listening. Until our next Fraser of Allander podcast, we’ll see you then.