Spending
As well as the services we use every day, like your school or the healthcare you receive through the NHS, the government’s spending decisions also help spur on investment in the private sector too!
How do governments spend?
The responsibilities over this spending are split between the Scottish Government, UK government and local authorities.
The Office for Budget Responsibility (OBR) have a handy guide on understanding these different types of spending:
The UK public sector pay bill (which includes 5.6 million UK public sector employees) is part of this and accounts for around a quarter of all UK government spending at £235 billion in the 2021/22 financial year (IFS).
In 2022-23, the OBR predicts central government departments spend £407 billion on this day-to-day current spending. This is 37% of total government spending.
👩⚕️ Cuts in current spending typically translate into real pay cuts for the civil service and lower staff numbers in schools and hospitals.
It mainly involves funding multi-year projects such as building hospitals, schools and infrastructure. Capital spending can encourage further spending and growth through investment in infrastructure the private sector.
The OBR estimates the public sector to spend £113.6 billion on capital investment in 2022-23. This is 10% of total spending.
🚅 The High Speed 2 (HS2) railway line, which will connect London, Birmingham, the East Midlands and North West England is estimated to cost £98bn in capital spending. There is controversy over whether this investment will repay itself. The initial 2010 Command Paper estimated that the project would generate £2.40 for every £1 spent, while the 2020 Lord Berkeley Review suggests it would generate only £0.66 for every £1 spent.
In the UK, most transfer spending involves cash transfers through the welfare system. The OBR estimates 54% of this bill will go to state pensions (£110.6 billion).
📈 Transfer spending is ‘demand-led’ which means that the level of expenditure responds to changes in demand in the economy. For example, spending on welfare benefits depends upon how many people require benefits, which depends upon how the economy is performing. This is one example of automatic fiscal stabilisers, where during an economic downturn there is an increase in welfare spending.
Knowledge Checkpoint: Describe the three main types of government spending
How does UK welfare spending impact households?
The outcome of this transfer is that income inequality is significantly reduced:
“The average household income of the richest fifth of people, before taxes and benefits (£107,600) was 13 times larger than the poorest fifth (£8,200). However, this reduced to 4 times larger (£79,200 and £21,400, respectively) after taxes and benefits.” (ONS)
The Magic of the Fiscal Multiplier: Boosting GDP
Government spending creates income somewhere else in the economy. For example, UK current spending provides an annual income for 5.6 million public employees in the UK.
- A positive fiscal multiplier means that £1 of government spending will increase the size of GDP by more than £1. In the example of public sector employees, this happens because increased income of workers leads to increased consumption of goods and services elsewhere in the economy.
- This is particularly important in times of recession, when government spending can provide crucial support for the economy by preventing significant spending decreases (see automatic fiscal stabilisers).
Knowledge Checkpoint: Explain how changes in government spending can influence the economy, providing examples of austerity and expansionary policies
Big Spending to the Rescue: Expansionary Spending in the UK
- The UK government’s support during the cost of living crisis has totalled over £37 billion in 2022. Almost eight million vulnerable households received £1,200 in a one-off support package. All domestic electricity customers received at least £400 (HM Treasury, June 2022).
- “The Covid-19 pandemic has resulted in very high levels of public spending. Current estimates of the cost of Government measures announced so far range from about £310 to £410 billion. This is the equivalent of about £4,600 to £6,100 per person in the UK.” (House of Commons Library, March 2022).
“The UK government’s Coronavirus Job Retention Scheme (CJRS) – or furlough programme – provides an example of how the role of the state has had to adapt in the face of the pandemic. This example highlights just how much the state has become entwined in people’s everyday lives during the pandemic. Governments are implementing measures to control the spread of the disease and, in so doing, are forced to create additional mechanisms for employment protection so as to avoid plunging millions of people into joblessness.” (Economics Observatory)
When the Purse Strings Tighten: Austerity Policies in the UK
- Austerity involves the reduction of public spending to reduce the budget deficit. This can affect any of the spending types previously discussed, including reducing the public sector pay bill.