Sean O'Grady: NHS pledge distorts the Coalition's spending choices

Economic Outlook: Had the Coalition listened to Mr Cable's initial advice, the pain in other areas might now be a little less acute
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The Independent Online

It was that wise man Vince Cable who said before the last election and his entry into the Coalition Government that it would be a mistake to "ring-fence" NHS spending when trying to cut Britain's dangerously wide large fiscal deficit. Though Mr Cable has enjoyed a cabinet career at least as choppy as the economic recovery, he was right about that, and the IMF said as much last week.

One of the obscure joys of economic journalism is the discovery in some corner of an official document a small, apparently technical detail that carries vast political import. So it is with the IMF's Fiscal Monitor, a document that usually runs a poor third to the World Economic Outlook and the Global Financial Stability review for media attention. Still, this year's edition contains an important warning about why the UK's belt-tightening, already one of the most stringent in the advanced world, may not be enough – and why, when all the present programme of cuts is implemented, there will still be very little room for any relaxation. The libraries, in other words, will stay shut, the welfare benefits will remain cancelled, and the swimming lessons for the elderly funded by your local council will never be seen again. The cuts are for keeps.

One answer, ironically enough, is that Coalition pledge to ring-fence NHS spending, or, more precisely, to protect it against "inflation". The inflation the Government refers to is the GDP deflator, which covers the level of prices in every part of the economy, not just at the retail end, and thus, say, would include the price of fighter jets or wind turbines that are not currently available at Sainsburys. Or scanners for the NHS...

As it is, the general tendency in the NHS is for its rate of inflation to be higher than this general measure or the retail indices, often because technological and drugs advances are so dramatic, even before you consider the effects of more and more of us living longer in failing health.

So even with the pledge to "ring-fence", the NHS will in reality face something of a squeeze. The real question, though, is whether the squeeze ought to be even tighter.

The pledge, of course, derives from the Tories' political desire to be more Catholic than the Pope when it comes to the NHS, so nervous are they about their ratings on it and their record in the past.

And yet, as Mr Cable pointed out, that risks embedding inefficient spending in the NHS at the expense of cutting relatively efficient and useful programmes in, say, defence or policing. The answer to that is the efficiency savings the Government hopes to win, not least through its stalled reform programme, to which I will return. Suffice to say for now that the NHS pledge will add complication to the Government's ability to deal with this pressing longer-term challenge to fiscal sustainability.

Health and welfare "entitlement" spending, the IMF says, is a real problem in all the rich economies, and the chart shows the difference between what governments are planning in deficit reduction – and you'll note the UK towards the top of the cutting table – and what they "ought" to be doing, according to the IMF. That is, if they want to be able to cope with an ageing population and the rising cost of healthcare within a fiscally responsible framweork.

On this ambition, even the Coalition's cutting is not quite enough. To offset these ageing and other effects and keep borrowing and debt on an affordable path by, say, 2030, we need to shave another 1.8 per cent of GDP from our plans; say £25bn, of which say £18bn would come from lower spending, and £7bn on taxes, on the usual split between the two.

In other words, the best part of the schools budget would have to be cut, that is if we want to maintain health spending and the like in line with where we are now to retain the Coalition Agreement pledge on the £100bn-plus health service. The Institute for Fiscal Studies has also pointed out how health spending as a proportion of total spending is on a sharply upward trajectory; for the next few years, it will be the cuckoo in the public sector's nest, able to make the first claim on an any additional public resources that come by.

The best the IMF can do in the way of policy suggestions may also come as mixed news to a government in a tight corner over NHS reform. Ageing is actually a relatively minor part of the problem in most Western economies, say the Fund. The real issue is broader, about the efficient use of limited resources as technology advances and costs rise – reform.

The IMF says market-orientated reforms are key to getting more out of health spending. Yet the type of reform that the Health Secretary, Andrew Lansley, is proposing, focusing on freeing up choice for providers, just doesn't yield enough. A bigger impact could come from policies that even the most radical government might baulk at: "The UK has relatively high projected spending growth. It could strengthen supply-constraints on the workforce and equipment (for example by rationing high-technology equipment). In addition, it could benefit from extending the role of private health insurance for over-the-basic care and increasing choice among providers". Imagine that in your manifesto.

The point here is that there is a big tension at the heart of government policy; the need for deficit reduction and fixing the public finances is paramount, but then so is the quixotic pledge to protect the NHS, which will increasingly distort public spending choices and slow the fiscal consolidation. Had the Coalition listened to Mr Cable's initial advice, the pain in other areas might now be a little less acute (eg, for students). How long that pledge to maintain real-terms NHS spending will survive the pressures from elsewhere must be a moot point. For a second term of a Tory or coalition government, the chances are that it will have to be ditched; either that or propose a more far-reaching reform in the NHS that hands much of its work over to private insurance firms. The political argument about the NHS has barely begun in earnest.

Which just leaves me the space to mention the man who ramped NHS spending a decade ago: Gordon Brown. There was plenty of gossip about Mr Brown becoming the new boss there at the Spring Meetings last week in Washington, and opinion is divided on whether he's up to the job. More important, to my mind, is whether he might be at ease with IMF policy. Mr Brown was, after all, famously sceptical about bringing market mechanisms to the NHS while he was in power; would he now want to dilute the Fund's enthusiasm for them?

Could he tell David Cameron in all seriousness that government NHS reforms don't go far enough and that he's spending too much on healthcare? Would he be able to declare, as Fund officials did last week, that the British Government's deficit reduction plan is "entirely appropriate" and that George Osborne would meet his fiscal targets? Why, then, did he argue so strongly not so long ago that the Tories wanted to cut too much too fast – and when the IMF is hinting heavily that they might want to cut even more, given demographics and the trends in health spending that Mr Brown initiated. Never mind the IMF wanting Mr Brown, why would Mr Brown want to lead a body that shares so little of his fundamental outlook and values?