Clarke gambles on another year of restraint

"One minute the Government appears in the guise of Thatcherite cutter of spending, the next as trusty defender of public services. All politicians try to play both sides of this card, but it is mostly governments that get blamed when expectations are dashed."

Emerging from Blackpool with tax cuts on their minds, the Conservatives are heading directly into severe political trouble over public spending. They have pledged to cut the real level of spending again next year, but have no intention of actually reducing the scope of the public sector. As a result, they will raise public expectations and then get blamed for the shoddy provision of services that will inevitably follow.

Most commentators have not noticed this risk, either because they have assumed (wrongly) that there is plenty of fat in current spending plans, or because they believe the Chancellor is setting tough spending targets with the deliberate intention of missing them in the election run-up.

The overshoot in the Budget deficit relative to targets this year is seen by cynics as the start of a premeditated strategy of lining the voters' pockets. This would encompass tax cuts, followed by uncontrolled increases in public spending, followed by more one-off gains for voters as regulators force cuts in fuel prices, as building societies merge, and as the Norwich Union goes public.

What could be more familiar than a gigantic pre-election bribe, with the mess being cleared up after polling day?

It is clear that some elements of this are very much in the game plan. The Chancellor obviously intends to cut taxes in each of the next two Budgets, and probably to promise a phased programme of further reductions after the election as well. That was presumably the inference of his remark at conference that not everything in the tax area could be accomplished "in one go".

Furthermore, Mr Clarke is hoping to trump Labour's windfall tax on the utilities by "persuading" regulators to ram through additional price cuts for the consumer. Not only would this reduce inflation and boost real incomes, it would also denude the utilities of the surplus cash that Labour is planning to raid in government. Far too tempting an opportunity for Mr Clarke to spurn, even though he may have to lean rather hard on the regulators to cajole them into co-operating.

But what about public spending? The Prime Minister said last week that the search for more spending cuts would be "ruthless". Yet by the end of the week he was adding 5,000 policemen to the beat, reiterating his commitment to increase real health spending each year, and telling the Chief Secretary not to "mess with" Gillian Shepherd's education programme.

One minute the Government appears in the guise of Thatcherite spending- cutter, the next it is the trusty defender of the public services. Of course, all politicians try to play both sides of this particular card, but it is the fate of governments to get most of the blame when the electorate's expectations are dashed.

The Government's present approach to the control of public spending is tactical rather than strategic - cheese-paring without making any attempt to reduce the public's demand for cheese.

As Norman Lamont pointed out in Blackpool, there is a refusal to contemplate eliminating the public sector from large parts of pension provision, health and education, thus making room for significant cuts in taxation.

Instead, the Government's approach is reminiscent of a company that has decided to curtail costs without reducing the scale of its businesses. Typically, the first wave of cuts works fine, since obvious waste can be eliminated and the bottom 10 per cent of the workforce can be fired without any immediate loss of business.

But a second wave, if still needed, is rather more difficult. Important capital investment gets postponed, and efficient staff are asked to accept sub-par pay increases, which leave them worse off than they would be in the open market. Many of them leave. All this impairs the long-term performance of the company, and revenue starts to fall. In the third wave, the firm either retrenches to its most profitable core of businesses, or it fails.

The Government is acting like just such a company about to embark on its second wave of cuts. The first wave started in the crucial year of 1993, when the Government realised that public sector borrowing was running out of control, partly because of a 5.7 per cent rise in the real level of spending the previous year.

But the introduction of an improved method of controlling spending (based on the "control total", which excluded spending on cyclical social security and debt interest) succeeded in holding the real growth in spending down to 1.2 per cent and 1.0 per cent in the following two years. This year, the result is so far unknown, but the real growth in spending should come in at around zero.

The Chancellor has claimed that 1993 should be seen as a watershed for public spending control, and three successive years of real growth at 1 per cent or less certainly looks impressive. But in fact there was a similar period of low growth in real public spending from 1985-88, when the economy was at roughly the same stage of the business cycle, so it is not yet clear whether we are seeing anything genuinely new.

There have admittedly been some genuine policy changes that have yielded savings in the social security budget - involving, for example, incapacity benefit and the jobseekers' allowance.

Furthermore, almost every important local authority in the country now has its spending forcibly capped by the Government, or is "voluntarily" complying with provisional caps set by Whitehall each year. (How many voters realise, incidentally, that Whitehall has now virtually removed the power to tax and spend from the local authorities, leaving them as rump bodies empowered only to administer a fixed budget?) These changes may continue to depress spending for some years.

But in the main, the last three years have seen a series of one-off expedients that are most unlikely to work indefinitely. Like the company in trouble, government departments have postponed or cancelled capital projects, and have been required to absorb the full cost of any increase in public sector pay through efficiency savings elsewhere.

This has been temporarily successful, but three major problems now loom. The public sector pay bill cannot be permanently frozen with inflation beginning to rise. Plans for health spending, which allow for real growth of almost zero, look unrealistically tight.

And education spending will surely accelerate above plans, given the growth of 1.1 per cent in pupil numbers next year and the need for an upward adjustment in teachers'pay.

The Chancellor is not allowing for any of these pressures in his plans for next year. Far from it, another year of approximately zero growth in real public spending is being pencilled into the Budget arithmetic. Perhaps the Chancellor, as accused, really does intend to exceed these tough targets when the time comes. But this is a risky strategy.

Under the new control system, it will be very obvious if targets are being missed, and the eyes of the financial markets will be firmly trained on the Treasury's behaviour. More likely, Mr Clarke has made the political judgment that he can get away with another year of tough restraint on spending. A hundred or so vulnerable Conservative MPs had better hope that he is right.