“A perfect storm” – an initial analysis of the Welsh Government’s Draft Budget for 2023-24
15 December 2022Setting out the Welsh Government’s Draft Budget for 2023-24, Rebecca Evans described the annual exercise as one of the toughest since devolution.
As we outlined in our Welsh Budget Outlook report last week, unexpectedly high inflation has eroded the real terms value of the Welsh Government’s spending plans – a loss that is only partly mitigated by additional funding from last month’s Autumn Statement.
The Welsh Government made significant commitments to support businesses and large additional allocations for the NHS and local government. However, these spending plans may fall short of the spending pressures faced by public services over coming years and sets a difficult outlook for public sector pay in particular.
This blog provides some initial analysis of the additional allocations made by the Welsh Government and the implications for Welsh public services.
Changes in funding for day-to-day spending
The economic and fiscal outlook has changed dramatically since the Welsh Government set out indicative three-year spending plans for years 2022-23 to 2024-25 in December 2021.
The Welsh Government claims the settlement could be worth up to £3 billion less in real terms over the three years covered by the Spending Review, though the exact loss depends on the measure of inflation used. One of the reasons cost increases will be lower than this amount is that public sector pay (which accounts for over half of day-to-day spending) will likely be held down in real terms.
Figure 1 shows the changes in Welsh Government funding for 2023-24, as well as the how this additional funding was allocated.
At the Autumn Statement last month, the UK government topped-up its spending plans in England, which resulted in a further £666 million in resource funding for the Welsh Government in 2023-24 and £509 million in 2024-25.
Changes to devolved tax forecasts and associated block grant adjustments have a positive net effect on spending in 2023-24 (see page 17 here for discussion). The Welsh Government increased its planned drawdown from the Wales Reserve by £16 million in 2023-24 to £38 million.[1] There were also positive underlying changes to forecast revenues from Non-Domestic Rates in 2023-24.[2]
Despite the challenging outlook for the budget, the Welsh Government did not change the Welsh Rates of Income Tax, in line with the commitment not to do so “as long as the economic impact of Covid-19 lasts”. A 1p rise across the three Welsh Rates of Income Tax would have raised £273 million next year, in a broadly progressive manner.
The fact this option wasn’t taken at one of the toughest budgets since devolution may raise questions about the usability of these powers – notably the lack of powers over thresholds which could protect lower earners from tax rises.
The Welsh Government undertook a reprioritisation exercise to release funding from within existing plans, which amounts to £87.4 million in 2023-24.
Figure 1: Changes in funding and allocations for day-to-day spending plans for 2023-24
Source: Wales Fiscal Analysis calculations based on Welsh Government Draft Budget for 2023-24. Notes: changes exclude the effects of IFRS16 accounting changes.
Also affecting the Welsh Government’s funding for day-to-day spending was the package of support for businesses through the Non-Domestic Rates system, worth more than £460 million over the next two years (£319 million in 2023-24). The measures broadly followed UK government announcements for England last month, which triggered additional funding for the Welsh Government.
These include freezing the multiplier used to calculate liabilities in 2023-24 (at a cost of £200 million over the next two years); providing transitional relief for businesses facing a £300+ increase in their rates because of revaluation (£113 million over two years); and funding a 75% relief for retail, leisure, and hospitality premises in Wales in 2023-24 (capped at £110,000 per business).
The apparent cliff-edge that loomed for these sectors as the last of the Covid-19 reliefs was set to expire has been averted. As it stands, non-domestic actors in other sectors, including the public sector, still face large increases to their energy bills when the UK government’s cap expires in April.
Additional spending allocations
As a result of the various funding changes described above, the Welsh Government’s budget for day-to-day spending will increase by an average of 0.8% per year in real terms between 2022-23 and 2024-25 − on a per person basis, this increase only amounts to 0.5%.
Relative to initial spending plans, the Welsh Government had an additional £487 million to allocate to its spending plans in 2023-24 and a further £511 million to allocate in 2024-25. These additional allocations are shown in Figure 2.
Figure 2: Additional allocations for day-to-day spending in 2023-24 and 2024-25 (change from 2022-23 Final Budget allocations)
Source: Wales Fiscal Analysis based on Welsh Government Draft Budget for 2023-24 and Final Budget for 2022-23. NHS spending refers to Budget Expenditure Lines under “Deliver of Core NHS Services” (less non cash elements) and “Delivery of Targeted NHS Services” (less “A Healthier Wales” spending). This figure differs slightly from Figure 2.6 of the Welsh Budget Outlook report: the baseline is taken from Final Budget 2022-23 rather than the 1st Supplementary Budget; and non cash elements of NHS spending were previously unavailable in budget documents and were estimates only.
An additional allocation of £165 million was made to NHS spending in both 2023-24 and 2024-25, broadly in line with the additional consequentials received from higher health spending in England at the Autumn Statement. Spending on core NHS services is set to increase by £415 million next year and by £615 million by 2024-25.
Despite this additional funding, spending plans remain significantly below what was initially set out in real terms. Original plans implied an average increase of 2.7% per year in real terms over the three years of the spending review period (from 2021-22 to 2024-25). This average increase is now set to be 2.4% per year, significantly below historical average increases in health spending.
Given the increased cost pressures faced by the NHS, this means spending will likely fall short of the funding pressures felt by the health service in the aftermath of the pandemic. The additional funding is unlikely to address the lasting blow Covid-19 has dealt to the capacity of the NHS.
Meanwhile, local government was a relative ‘winner’ from the Draft Budget – an additional £227m has been added to the settlement next year (more than doubling the planned increase in funding), and an additional £268m has been added in 2024-25.
Figure 3 puts this increase in funding in an historical context. Under these new plans, local authority funding in 2024-25 will remain 1.5% short of its 2010-11 high. This is nevertheless an improvement on plans set out last year, which would have seen funding levels remain 6.6% below their 2010-11 peak after accounting for now-higher levels of inflation.
This additional funding will alleviate the most acute cost pressures faced by councils over the next two years. But it is still likely to fall short of the amount required to absorb all inflationary and demand pressures (see chapter 3 here) − potentially paving the way for large council tax increases next April.
Figure 3: Welsh Government funding for local authorities (excluding specific grants), 2022-23 prices
Outside these two areas of spending, the Welsh Government allocated an additional £95 million on top of original spending plans (net of reprioritised funding).
The Welsh Government made allocations to support those affected by the cost-of-living crisis in 2023-24. These allocations included a £18.8 million allocation to the Discretionary Assistance Fund (which provides emergency support payments and support in kind) and £9 million to the Pupil Development Grant. These allocations fall short of the significant cost-of-living measures which the Welsh Government were able to make in budgets for 2021-22 and 2022-23 (see Figure A1 here).
Other significant allocations include £40 million in 2023-24 and £20 million in 2024-25 to support the response to the crisis in Ukraine, £40 million to support public transport services, and £18 million for apprenticeships.
Overall, spending outside of the NHS and local government will fall in real terms next year. Many areas of the budget not receiving additional allocations will feel the full impact of the increase in inflation over coming years.
Future pressures
After receiving no additional funding for capital spending at the Autumn Statement, the Welsh Government was not able to top up its investment plans and mitigate the impact of higher inflation. The value of the capital budget is set to fall by 8% in real terms by 2024-25 – with further real terms cuts pencilled in by the UK government thereafter.
Capital borrowing is set to become more expensive, with the assumption of a 3% interest rate on borrowing in 2022-23 (up from 1.2%) and 3.7% in 2023-24. However, repayments are likely to remain relatively low as a share of the budget given tight borrowing limits.
Based on the UK government’s indicative spending plans, the outlook beyond 2024-25 also looks austere for day-to-day spending, with the Welsh Government expecting low levels of per person funding increases to continue to 2027-28. The Welsh Government will hope those plans – set for the period after the next UK General Election – will eventually change.
Perhaps the biggest omission from the Welsh budget narrative was a clear plan for public sector pay over coming years. There was acknowledgement that the real terms pay squeeze is much more intense in the public sector, but there was no indication of whether the Welsh Government would (or could) go beyond current pay offers.
As we outlined in our budget outlook report, the current pay offers represent a significant source of additional spending pressures for public services, even though they imply a 7% real terms pay cut for most public sector employees over two years.
For example, most of the additional NHS spending allocated at the Draft Budget will go towards meeting higher-than-expected pay deals. We estimate that the current pay offers this year (of around 5%) and a 3.5% increase next year would add £141 million more to the NHS pay bill than would originally have been budgeted for in 2023-24.[3] However, these pay deals still risk further industrial action as well as recruitment and retention issues.
The Welsh Government will argue that its hands are tied by a UK government-determined settlement and that it followed the recommendations of independent pay review bodies. The Draft Budget will set the context for those recommendations. With inflation likely to remain elevated for another year, public sector pay will be a source of strain on these spending plans over coming years.
[1] This means a further £87 million could be drawn-down from the Wales Reserve to meet in-year pressures.
[2] We presume this is mainly the effect of higher inflation forecasts pushing up the default increase to the NDR multiplier – in reality, this increase in the multiplier will be offset by the freeze in the multiplier announced this week.
[3] This assumes that the Welsh Government would originally have budgeted for 2.7% pay increases across the Spending Review period – matching the average CPI inflation forecasted at the time.
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