Why cap welfare spending?

Budget 2014 introduced a cap on certain elements of welfare spending including housing benefit, incapacity benefit and tax credits. The state pension and Jobseekers Allowance are not included.

The cap on welfare spending has been long planned, with Budget 2011 stating that the Government was “considering options for strengthening control” over this type of spending. Beyond the political reasons for capping spending on welfare, what is the economic or fiscal motivation for this move?

Fiscal consolidation

The Government is committed to reducing Government borrowing. Current plans are for 80% of the consolidation of the Government’s fiscal position to be funded through reductions in spending, with the remaining 20% funded through tax rises.

This means that controlling spending across Government is a high priority and the cap on welfare spending can be seen in this context.

Control of Government spending

Government spending is classified as either Departmental Expenditure Limits (DEL) or Annually Managed Expenditure (AME):

• DEL is spending which departments have direct control over and includes most elements of predictable spending, such as teachers’ salaries, or money used to fund most policy programmes.
• AME is the less predictable elements of expenditure, such as spending on debt interest and spending on social security.

Historically, DEL has accounted for a greater proportion of public spending than AME. In recent years this has been reversed and in 2013/14, AME is forecast to account for 51% of total spending, rising to 57% by 2018/19.The Government has been successful at cutting DEL in recent years and forecasts suggest that this pattern will continue. OBR figures suggest that current DEL spending will fall from £316 billion in 2013/14 to £289 billion in 2018/19.

However, AME spending is forecast to rise over the same period, from £352 billion to £430 billion.

The cap in action

The welfare cap means that if spending on a large portion of AME exceeds a certain limit, then policy action must be taken, or the cap level must change, and Parliamentary approval must be obtained. The Office of Budget Responsibility (OBR) will judge whether the cap has been met at the time of each Autumn Statement.

However, the cap is currently set at the level of spending on relevant benefits as forecast by the OBR. So, in order for the cap to be met, spending must simply remain at or below its expected level. This has led some commentators to argue that the cap has “no policy effect.” But this ignores two important points:

• Firstly, the cap increases scrutiny of the relevant budgets, meaning that there is a greater incentive for Government to seek to control these budgets;
• And secondly, future Governments are able to change the level of cap (provided Parliament gives approval.) So, the current cap can be viewed as creating the framework for more rigorous control of this sort of spending, leaving it up to future Governments to choose to set more challenging cap levels.

A motion related to the updated Charter for Budget Responsibility, including the proposed welfare cap, will be debated by the House of Commons on Wednesday 26 March 2014.

Further information on the operation of the cap can be found in the House of Commons Library note, Budget 2014: a summary.

Chris Rhodes