Pre-Budget Report 2009: more spending cuts to come
Pre-Budget Reports are often tricky affairs as a Government seeks to balance competing interests and priorities. A burgeoning budget deficit and precipitous fall in economic output, coupled with an imminent general election, made the Chancellor's latest task even harder than usual.
On this page:
Economy shrinks faster than
expected
Inflation to pick up
Borrowing
to rise again
Further support for those without
work
Public sector pay to be squeezed
Changes to pension arrangements
Dealing with
bonuses
National insurance to increase in 2011
Workplace canteen tax exemption to be restricted
Additional resources.
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Key points
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A statement to the House of Commons by the Chancellor of the Exchequer is always of intense political, as well as economic, interest. Alistair Darling's Pre-Budget Report, delivered on 9 December 2009, was of particular importance given a worse than expected fall in output, the dire state of the public finances, and an imminent general election, scheduled to be held no later than Thursday 3 June 2010.
Against a difficult economic backdrop, and with rumours of political infighting within the Cabinet, the Chancellor's room for manoeuvre was extremely limited as he struggled to produce a package that would frighten neither the electorate nor the financial markets. The result is a raft of measures that postpones some of the greatest pain until well after the next election. We consider those of the Chancellor's measures that will be of most interest to HR practitioners.
Economy shrinks faster than expected
One of the key problems facing the Chancellor is that the domestic economy has contracted at a faster rate than previously forecast, with output expected to have fallen by 4.75% in 2009 as a whole, as against a predicted contraction of 3.5% at the time of the 2009 Budget. According to the National Institute for Economic and Social Research (PDF format, 21.58K) (external website), this is the largest annual drop in UK gross domestic product (GDP) since 1921, and it has placed a severe, and some say unbearable, strain on the public finances.
The Chancellor expects growth to resume in the fourth quarter of 2009
However, although the UK has been slow to emerge from recession, the Chancellor expects growth to resume in the fourth quarter of 2009 with the latest official data (on the ONS website) confirming that the economy has shrunk for six successive quarters. The economy is predicted to expand by between 1% and 1.5% over 2010 as a whole, as a combination of historically low interest rates, the pumping of liquidity directly into the economy through what is known as quantitative easing, and a recovery in world trade, take effect. Thereafter, domestic output is forecast to improve strongly - up by an arguably optimistic 3.5% in both 2011 and 2012, unchanged on the 2009 Budget projections.
The Chancellor noted that there will be a certain amount of rebalancing within the economy as "growth will come from more varied sources and not depend as much on the financial sector". This echoes Peter Mandelson's view that "Britain needs an economy with less financial engineering and more real engineering" (on the BIS website).
Inflation to pick up
On inflation, the recent reversal of the temporary cut in VAT will contribute to a rise in the consumer prices index, the Government's preferred measure, from the October 2009 level of 1.5% to around 3% early in 2010. It will then fall back markedly to 1.75% in the final quarter of 2010 and 1.5% towards the end of 2011 due to the degree of spare capacity within the economy. Inflation will then pick up modestly to reach the Bank of England's target rate of 2% by the end of 2012 as the expected recovery gathers momentum.
Retail prices index inflation, still the yardstick used by the vast majority of pay setters, rose to 0.3% in November 2009, following eight months in negative territory. It is expected to increase more rapidly with upward pressure emanating from rising house prices and the large reduction in mortgage interest payments falling out of the annual comparisons. It is forecast to be pitched at 2.5% in the fourth quarter of 2010 and 3.5% by the end of 2011.
Borrowing to rise again
The severe recession has dragged down tax receipts in its wake while at the same time pushing up spending on unemployment and other social security benefits. Added to this is the cost of the banking bail-out, which is less than originally expected at the time of the 2009 Budget, but nevertheless contributing to a substantial increase in public borrowing. The burgeoning deficit has caused concern in the financial markets, and has even threatened the UK's "AAA" credit rating such that the Government has tabled a Fiscal Responsibility Bill (on the HM Treasury website) committing it to halve public sector net borrowing as a share of GDP over four years from a forecast peak in 2009-10. The Government is also setting a target, in secondary legislation enabled by the Bill, for borrowing to be 5.5% of GDP or less in 2013-14. Borrowing as a share of GDP will be reduced in every year from 2009/10 to 2015/16.
In the meantime, however, the figures for the budget deficit are eye-watering, although the markets may take some comfort from the fact that the Chancellor's latest projection for public sector net borrowing, at £178 billion for 2009/10, is not significantly higher than the £175 billion outlined in the 2009 Budget. In 2010/11 it will fall, only marginally, to £176 billion, declining further to £140 billion in 2011/12 and then to £82 billion by 2014/15. Borrowing will be pitched at 12.6% of GDP in 2009, falling to a projected 4.4% in 2014/15.
The trick for the Chancellor was to produce a credible plan for reducing the budget deficit while at the same time not cutting spending, or indeed raising taxes, so sharply that it threatened economic (as well as political) recovery. With a wary eye on the forthcoming general election, he has opted to announce some limited cuts in public expenditure now, while reserving the deepest, and as yet unspecified, reductions until 2011 and beyond.
Further support for those without work
Building on his theme that the Government's active and continuing intervention to support the economy during a severe recession has helped mitigate the number of redundancies, the Chancellor announced a number of additional measures to tackle unemployment among key groups.
Of particular concern has been the rise in youth unemployment, notably among those not in education, employment or training (known by the acronym NEETs). In a House of Commons debate held on 12 November 2009 (external website) Kevin Brennan, Minister of State for Further Education, Skills, Apprenticeships and Consumer Affairs at the Department for Business, Innovation and Skills, stated that the number of NEETs under the age of 24 was 959,000 in the second quarter of 2009. This tally includes young mothers with children, those who are seriously ill or have profound disabilities, and young people who have a course or job that has not yet started, including those on a gap year.
The 2009 Budget included a pledge that all those aged between 18 and 24 and who had been unemployed for 12 months or more would be given guaranteed employment, work placement or work-related skills training. The Pre-Budget Report reduces the qualifying period for this assistance to six months, effective from 1 January 2010. In addition, guaranteed education or training for all 16- and 17-year-olds has been extended for a further year from September 2010.
At the opposite end of the age spectrum, the Chancellor announced additional support from Jobcentre Plus and other specialist providers for unemployed people aged 50 and over and who are looking for work.
This package of measures is to be paid for by using resources freed-up by lower than expected unemployment, with the detail to be set out in the Employment White Paper (on the DWP website) published on 15 December 2009.
In addition there will be £30 million allocated from within existing resources to help industry in Teesside following the announced mothballing of Corus's Redcar steel plant. There will also be an £8 million government contribution to a scheme to provide bursary-style support for up to 10,000 undergraduates from low-income backgrounds undertaking short, unpaid, internships in industry, business and the professions.
Public sector pay to be squeezed
With such a strain on the Government's purse, it is unsurprising that the Chancellor has been forced to take a long, hard look at future spending
One key announcement affecting millions of workers is the 1% cap on pay rises for public sector employees for two years from 2011
The Chancellor also expects senior civil servants to show "leadership" in exercising wage restraint. For 2010/11 the Government has proposed a pay freeze for senior staff including chief executives of non-departmental public bodies, senior civil servants, judges, senior NHS managers, consultant doctors and GPs. In addition, the Pre-Budget Report announces a number of what the Chancellor describes as "fundamental reforms to pay-setting … aimed at increasing the robustness, transparency and accountability of decision-making across the public sector". They include:
- A new scrutiny of pay levels above £150,000: the Chief Secretary to the Treasury must approve annual salaries in excess of £150,000 for all civil service appointments and appointments to public sector bodies that are subject to ministerial approval. This will also apply to all bonus payments of over £50,000 where a ministerial sign-off is needed. For public sector bodies where ministerial approval is not required, the Government expects all organisations making senior managerial appointments in excess of £150,000, and any bonus in excess of £50,000, to publicly justify these levels to the relevant Secretary of State.
- Transparency and accountability: all public sector bodies subject to direct ministerial control will be required to publish the salary, including benefits in kind and the level of any bonus, of named individuals paid more than £150,000 a year to the nearest £5,000 and the number of staff paid more than £50,000 a year in £5,000 increments. The Government will expect all other public bodies to comply with this level of disclosure. Government departments will publish collective information on pay for senior staff in public sector bodies within their area of responsibility. The Government has commissioned relevant audit or regulatory bodies to incorporate into their regimes certification that the relevant body operates remuneration policies that maximise value for money for the taxpayer.
- Reviewing senior pay across the public sector: the Prime Minister will ask the Chair of the Senior Salaries Pay Review Body to report by Budget 2010 on senior pay across the public sector. The Government will then consider what legislative and non-statutory means are most appropriate to enforce compliance with pay and bonus principles and caps across the wider public sector.
Changes to pension arrangements
Public sector employees will also be subject to changes in their pension arrangements. "Cap and share" reforms to the teachers', local government, NHS and civil service pension schemes will cap the contribution made by employers, thereby limiting the liability of the taxpayer. Cost increases below the cap will be shared equally between employers and employees, and those above the cap met solely by employees. In addition, the Government will expect those people earning the highest salaries to make a greater contribution towards their pension. These reforms will save an estimated £1 billion a year from 2012-13, and at least twice this amount over the long term.
The 2009 Budget included measures to reduce pension tax relief for people with annual incomes over £150,000
The Chancellor also announced some further changes to pension arrangements affecting employees at the higher end of the income scale. The 2009 Budget included measures to reduce pension tax relief for people with annual incomes over £150,000. Noting that under the existing rules, the highest-paid benefit disproportionately from tax relief on pensions - a quarter of all the money spent on pension tax relief goes to the top 1.5% of earners - the Pre-Budget Report announced that from April 2011 individuals will be treated the same regardless of whether they receive their pay as current salary, or as a future pension benefit, thus preventing avoidance. Therefore, employer pension contributions will now be included in the definition of income for this purpose, although this will be subject to a "floor" so that no one with an annual pre-tax income below £130,000 (excluding employer pension contributions) will be affected by this change.
Dealing with bonuses
There had been intense speculation that the Chancellor would crack down hard on City bonuses following the widespread concern about the level of performance-related awards allocated to some senior bankers, with particular public ire directed at those financial institutions that were given substantial amounts of taxpayers' money to shore up their balance sheets. Matters recently came to a head when, according to reports, the entire board of the Royal Bank of Scotland threatened to resign if the Government prevented them from paying bonuses of £1.5 billion to staff in working in its investment arm. The bank is majority-owned by the state and has already received a multibillion-pound package of emergency support from the Government.
Rejecting a windfall tax on profitability, the Chancellor opted to offer the banks a choice: they could either use any profits to build up their capital base or they could give a bonus. But if they opted for the latter, payments would be subject to a one-off levy of 50% on any individual discretionary bonus, in whatever form, above £25,000. The tax, initially applicable from the date of the Pre-Budget Report (9 December 2009) until 5 April 2010, will fall on the bank (or building society) not the employee. To support the implementation of the levy, the Government also announced anti-avoidance measures. Guidance is available on the HM Revenue and Customs website.
On a "cautious assumption", with an expectation that some banks will rein in bonuses, the levy is expected to yield £550 million. Although this is not a huge amount in the scheme of things - according to financial services group Goldman Sachs it pays for about seven hours of total government spending - it is perhaps enough to send a signal both to the banks and the wider public that the excesses of some in the financial services sector must come to an end.
National insurance to increase in 2011
From April 2011 the standard rate of employer, employee and self-employed national insurance contributions (NICs) for those earning more than £20,000 a year will rise by 0.5% in addition to the 0.5% increase already stipulated in the 2009 Budget, taking it from 11% to 12%.
The levy on all earnings above the upper limit will rise by a further 0.5%, in addition to the 0.5% uplift previously announced, taking it from 1% to 2% from the same date. However, to protect what the Chancellor described as "those on modest incomes", the starting rate at which national insurance becomes payable will be also be raised.
Although income tax rates remain the same as those outlined in the 2009 Budget, the point at which the 40% rate becomes payable is frozen for one year from April 2012. This pulls more workers into the 40% tax bracket - an effect known as "fiscal drag" - although the Chancellor stated that no one with annual income below £43,000 will be affected by this change. All personal income tax allowances will be frozen at their 2009/10 levels for the 2010/2011 financial year.
Workplace canteen tax exemption to be restricted
The Chancellor announced legislation to restrict the tax exemption for workplace canteens from April 2011 by removing it when used in conjunction with salary-sacrifice or flexible benefits schemes. The "use of these arrangements enables a minority of employees to buy canteen meals out of pre-tax income, giving them an additional tax and NICs advantage that other employees do not enjoy," the Government says. However, the exemption will continue to apply to subsidised canteens that are available to all employees.
Additional resources
- HM Treasury: 2009 Pre-Budget Report Visit the official Pre-Budget Report 2009 microsite, on the HM Treasury website.
- Pre-Budget Report 2009: the speech Read the full speech on the HM Treasury website.
- Pre-Budget Report 2009: the Employment Intelligence perspective Read relevant blog posts from XpertHR Employment Intelligence.
- Budget Report 2009: no silver lining We look in detail at the Chancellor's 2009 Budget Report, focusing on the proposals of most interest to pay and HR professionals.
