Beyond the meltdown

5 Mar 12
The current financial crisis is just the start of the problems facing Western economies. ‘Normal’ levels of GDP growth might never return, as a result of climate change, an ageing population, depleted national resources and competition from Asia

By Malcolm Prowle and Roger Latham | 1 January 2012

The current financial crisis is just the start of the problems facing Western economies. ‘Normal’ levels of GDP growth might never return, as a result of climate change, an ageing population, depleted national resources and competition from Asia

It is human nature to react quickly to crises while ­neglecting longer-term but potentially more ­catastrophic issues. This is certainly the case today across the world, as governments faced with debts and economic stagnation focus almost entirely on getting their economies moving and their borrowing levels down. In the meantime, the crises of the future, caused by major demographic changes, societal changes and costly technological advances in health care, are slowly building up.

The impact of the ageing population is well known and documented. The growing numbers of elderly people, coupled with the disproportionate costs of providing them with health and social care, will affect public finances enormously. And these will have to be paid for by a decreasing proportion of people in employment. This is a truly global phenomenon, as the graph overleaf starkly illustrates. It also shows that in all countries the impact of the financial crisis is dwarfed  (to varying degrees) by the longer-term impact of the ageing population.

A large number of societal changes are also having an effect, such as the loss of the nuclear family, increasing levels of female employment and rising numbers of people living alone. A major change is the breakdown of community and social cohesion over the past 20 years, which is steadily resulting in the development of a ‘two nations’ culture. As several local authority chief executives have told us recently, there are perhaps 150–200 families in their areas whose dysfunctional lifestyles are absorbing a disproportionately large amount of public expenditure from all public agencies. How such a situation can continue in the current financial climate, when core services are being cut, is an issue that cannot be dodged.

Linked to this are the large-scale disparities in income and wealth in the UK, which lead to inequalities in health, education and employment. In The future of socialism, the late Labour Party intellectual and Cabinet minister Anthony Crosland argued that such inequalities could be reduced by distributing the fruits of economic growth more fairly and equally. But how is this to be achieved in an era of nil or little growth?

Scientific and technological ­developments have always been a driver of demands for public services, particularly in relation to health services. Consider the following: organ transplants, joint replacements, CT and MRI diagnostic scanners and modern chemotherapy. None of these was available 60 years ago but they are now commonplace. Further developments, such as new drugs and gene therapies, are likely to increase health costs further. The assumption has always been that the increasing costs of public services caused by such changes will be financed through increasing economic growth.

Even now, the usual politicians’ answer to these future financing problems is that everything will be OK once economic growth gets back to ‘normal’ – by which they mean an average economic growth rate of 2%–2.5% growth per annum.

However, there are ­several reasons why this approach might not work, including climate change, depletion of natural resources and changing e­conomic powers.

The Stern Review on the ­Economics of Climate Change suggested  that, without action to control carbon emissions, the overall costs of climate change would be equivalent to a permanent loss of 5% of global GDP. Including a wider range of risks and impacts could increase this to 20% of GDP or more.

Stern believed that stabilising atmospheric carbon levels at 550 parts per million would prevent this level of GDP loss but would require an investment of 1% of GDP, which he felt would be ­politically acceptable.

There isn’t any sign that we are taking the ­implications of the Stern report seriously. And that might have more significant social and political consequences than we can imagine. Jared Diamond’s book Collapse traces catastrophes that have overtaken communities throughout history that are broadly due to failing to address cultural, technological, and social assumptions, in the face of slowly changing environmental circumstances. It’s the slow-burn issues that get you in the end. Already it looks as if the coalition government is backing away from some of its ‘green’ pledges given the state of the UK economy.

A related and often ignored problem is the impact of  economic growth on scarce natural resources, the climate, biodiversity and the environment. While economies were at a fairly low stage of development, and humankind amounted to 1 or 2 billion, the natural environment had the resilience to cope. Once the majority of countries have achieved the take-off point on the curve that is typical of developing market economies, the collective impact on the environment is unsustainable. If the developing countries of the world aspire to achieve European levels of consumption, it will require three planetworths of resources to achieve that. If they wish to achieve US standards of consumption we would need seven planets. The flaw in the growth argument is thus painfully apparent.

The final hurdle in the way of a growth revival is shifting economic power. There are many clear indicators that economic power is moving from the West towards Asia. By the middle of the century China might supersede the US as the largest economy in the world and financial markets will see Asian economies as less risky than the debt-laden West. Hence, it is not clear how we will get back to ‘normal’ levels of economic growth even if we wanted to.

Our recently published book, Public finances in an age of austerity: getting out of the hole, examines how other countries have addressed major fiscal restructurings in the public sector in the past. The conclusions are not encouraging.

What is being attempted in the UK and elsewhere is not only at the very extreme edge or indeed beyond the boundaries of what has been achieved in the past, but it is also taking place for much longer. Moreover, ­Chancellor George Osborne’s Autumn ­Statement has extended the already ­unpreced­ented austerity drive by  a further two years.

Most countries that successfully restructured their public sector also did so against a steady pattern of global growth in the world economy. They were not facing at best flatlined growth and at worst a double-dip recession. Already there is anecdotal evidence that current plans are not working out.

The CIPFA survey of public sector budgets for last year, while praising the remarkable achievement of getting credible budgets out, noted that the size and innovative nature of some of the changes carried a high risk of failure or delayed implementation. There have been reports that a number of proposals to save costs by sharing services are beginning to fall apart because of cultural difficulties.

We are not sanguine that the ­current or even redoubled policies will be successful in eliminating the deficit by 2017. The present low levels of economic growth might be a long-term trend and we need to start some radical thinking about our responses to the slow-burn issues referred to ­earlier. This should include questions about: the role and limits of the state in the provision of public services; the relative ­priorities for public service provision in the longer term; how public services should be paid for, including the balance between tax revenues, charges, insurance schemes and so on; the balance between the use of incentives and greater authoritarianism in public policy; how the public sector should be organised and governed; and the role of the private sector in public service provision.

Furthermore, a paradigm shift in public services is needed to achieve significant efficiencies. This consists of two elements. The first, which could save 30%–40%, involves radically dismantling the hierarchical ­bureaucracies of the public sector and moving towards a more systems-based ‘demand pull’ approach. This should be genuinely based on empowering the front line in a series of co-ordinated social enterprises rather than a monolithic single provider.

It is close to the ideal of the ‘Big Society’ but goes way further than the simple idea of the central controlling hierarchy and multiple providers. Instead, it allows local communities, whether geographically or functionally defined, to control the provision of public services to the community in a radically new way. Most of the thinking behind this new approach is already well documented, but implementing it faces major ­political obstacles and organisational inertia.

The second approach would also save some 30%–40%. It involves ceasing to provide a significant level of public services that are the result of demand generated by the impact of inequalities on education, health, law and order, and community cohesion. Over the past 30 years we have allowed a deregulated economy to grow rapidly, producing significant surpluses, yet at the same time creating a massive derived demand for the public services that growth has paid for. Once the recession hit and growth was no more, the cost of the services became unsupportable. The solution however has yet to be accepted. It requires reducing the significantly increased levels of inequality that followed a deregulated economy.

Would this solve the problem of the impact of growth on the future sustainability of the planet? In a word, no. What it would do, however, is buy us a significant improvement and reduction of inputs, giving us time to start addressing some of the major structural changes needed if we are to meet the challenge of these ­long-term problems.

That’s the point at which we conclude our ­current book. But it’s not the point at which we conclude our thinking on this area. We believe that the current approach adopted by Western economies, including the UK, will not be successful, for social, political and, most importantly, economic reasons. We want to go on and look at what would need to happen to public services if we were to be able to have zero-growth communities that were sustainable economically, ­environmentally, and socially. This debate is only beginning, yet leaving it until it becomes a crisis would be a mistake.

Malcolm Prowle and Roger Latham are respectively professor and visiting fellow at Nottingham Business School. Their book, Public finances in an age of austerity: Getting out of the hole, was recently published by Palgrave McMillan

This feature first appeared in the January edition of Public Finance

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