Good times—but now the party’s over as the health and pension costs of an ageing population put increasing pressure on spending

In response to Britain’s biggest peacetime deficit, the government is embarking on an unprecedented set of spending cuts. But we should not see these cuts as either the beginning, or the end, of dramatic change in the public sector. Not the beginning because the shape of public spending has changed dramatically in the past 30 years—and there are some elements of these plans that look like a continuation of that longer run trend. And not the end, because an ageing population is going to put ever increasing pressure on spending (see Nick Carn’s piece in our investment report).

Significant decisions have already been taken to get us out of the hole we are in. But if we are to face the coming decades with sustainable policies and a robust budget we need to start a debate about how we will deal with the challenges that await us. There are rational decisions that we can make about the role of the state and the appropriate structure of the tax system which will help us through coming decades. But we can also create huge costs by cutting the wrong spending, relying on the private sector for the wrong things and increasing the wrong taxes.

Some of the most difficult choices are likely to be about how to manage the scale of health and pension costs associated with ageing. The over-65s have been the one group relatively protected during this period of spending cuts. But in future politicians will need to decide whether and how to raise more money from this group, which is vocal and votes actively, at a time when its numbers are growing. That is the political challenge of a generation.

First, the bare facts. The budget deficit is still expected to be well over 8 per cent of national income this year. There is room for argument over how fast Britain needs to act on this, but it will need to be tackled, even before we deal with the consequences of ageing. Following tax increases over the past few years, the government’s plan is to do nearly all the remaining work through spending cuts. These will come in part from social security and tax credits, but mostly from unprecedented reductions in spending on public services. Faced with a gloomy economic prognosis, the chancellor pencilled in two more years of spending squeeze for 2015-16 and 2016-17 in his autumn statement, in order to return us to a balanced budget by 2016-17.

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