Is fair funding possible, or pie in the sky?

Source: PSE Oct/Nov 2018

David Phillips, associate director at the Institute for Fiscal Studies, discusses the current health of local government finance, and how a better formula could help manage this situation.

In recent months, my conversations with colleagues and councils seem to be increasingly focused on one thing: pie. Not any old pie though: the funding pie available to English local government. In the next year or so, big decisions will be taken over both the size of this pie in coming years, and how it is sliced up between different councils. These decisions could have big impacts on the quality and quantity of local public services, and the council tax charged in different parts of the country.

A fair slicing of the funding pie?

Most of the work at the moment is about how to divvy up the pie. In particular, the Fair Funding Review was announced in 2016 and aims at providing a new system for allocating funding between councils. This will involve updated methods for estimating councils’ differing spending needs and their varying abilities to raise revenues themselves via council tax and other local sources.

Colleagues and I recently took a look at the challenges facing policymakers as they undertake this task. Measurement is a real issue. We do not observe councils’ spending needs, nor do we have a precise measure of their revenue-raising capacity. Instead, we must infer these from what we do observe: their spending, council tax bases, and socioeconomic characteristics, say.

But care is needed. Many factors other than spending needs can affect spending, for instance. In some areas, local politicians and voters may favour higher spending and higher-quality public services; in others they may favour lower council taxes. Some councils may be able to deliver services more cost-effectively than others. And government decisions on how much funding to give to councils will have a direct effect on how much they can spend in the first place.

For adults’ and children’s social services – which together take up more than a half of councils’ core spending power – the government plans to circumvent these problems by looking at how councils allocate their money to small areas or even individuals. That way the government can control for council-level factors (such as overall funding levels) and base the updated spending needs assessments on what councils’ own decisions tell us they think are the local and individual characteristics driving needs for these services.

For most other services, though – such as housing, libraries, waste collection, transport and planning – it seems likely that updated spending needs assessments will be based on council-level relationships between spending and socioeconomic characteristics. The idea is that these relationships will reflect the effect of the various socio-economic characteristics on councils’ spending needs. But they could also pick up differences in the preferences of, or funding available to, different types of councils, such as those covering rural or urban, deprived or affluent areas.

This is not just an academic question. It could have big effects on assessments of different councils’ needs – and hence how much funding they are given.

For example, our analysis shows that funding cuts since 2010 have been larger for the councils most dependent on central government funding – which typically serve deprived communities. Basing formulas to assess spending needs on current spending patterns effectively bakes those cuts in. It leads to much lower assessed needs for deprived councils (and higher assessed needs for more affluent councils) than if we base our formulas on spending patterns from 2009-10, before the budget cuts. That would have knock-on effects to funding levels going forwards.

So what to do?

It would seem odd to use data from almost 10 years ago to estimate a new spending needs formula. But using the most recent data isn’t really any more objective. Ultimately, the question becomes one of when we think the distribution of funding between councils was fairer. Have years of larger cuts for more deprived councils unfairly penalised them? Or were they necessary to limit cuts to more affluent councils, which previously received relatively too little funding?

This is just one of many questions faced by the Fair Funding Review to which there is no single right answer. So it is highly unlikely that the changes to different councils’ slices of the funding pie will be seen as fair by all involved. Nevertheless, a transparent process and simpler funding system will make it much easier to understand and critique the subjective decisions taken by government as it does the slicing – which is a good thing in itself.

Is the overall pie too stingy?

To add another metaphor to the (pie) mix though – isn’t the Fair Funding Review like rearranging the deck chairs on the Titanic? Isn’t the real problem that the pie is too small for all the mouths it has to feed?

While cuts were larger in more deprived councils, real-terms spending on council services fell by an average of 24% per person across England between 2009-10 and 2017-18. Looking ahead, funding remains under pressure and demands are rising. Increasing numbers of councils risk running out of money unless they make quite drastic cutbacks to services. Northamptonshire already effectively has.

In order to save further councils from this fate, in the upcoming Spending Review the government will need either to find extra money, give councils more powers to raise additional money themselves, or accept that councils will simply be able to do less than previously. 

However, this doesn’t negate the importance of the Fair Funding Review. The current way funding is allocated can’t continue indefinitely. In effect, we no longer have a functioning system to redistribute money between councils. Whatever its size, the pie will need slicing somehow, and the government is right to try to make that process more rational and transparent.  

Final thoughts

So, two big reviews in 2019-20 that will shape the future of local government in England: the Spending Review and Fair Funding Review. Will we find the money to meet rising demand and costs, or lower our expectations of local public services? Should the system prioritise redistribution according to spending needs or retention of local revenues to provide stronger financial incentives to councils? These are big questions on which opinions will differ. So now is the time to engage in the debate – which I hope our research helps enable.


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