Economic
perspectives
Opinions expressed in
economic perspectives are
those of the authors and not
necessarily those of the Fraser
of Allander Institute
Life after Barnett:
future options for
fiscal devolution in
the UK
by Anton Muscatelli, University of Glasgow
Introduction
The future of the fiscal devolution arrangements in the UK
has been the subject of intense political debate over the
last parliament and during the 2001 election campaign.
It is regrettable, though not entirely surprising, that much of
the attention in the fiscal devolution debate has fallen on
the extent to which devolved authorities like Scotland would
be able to survive on their own in a system of complete
fiscal autonomy.
The discussion on Scotland's deficit or surplus is a moot
point. This is not only because there are widely varying
estimates of the deficit, depending on assumptions about
future North Sea tax revenues, but also because Scotland's
hypothetical surplus or deficit is irrelevant unless it leaves
the Union. Whilst some federal arrangements allow
indi-vidual regional/state governments to borrow to finance
fiscal deficits, this freedom is (in most cases) curtailed. It is
almost impossible to envisage a situation in which
devolu-tion in the UK will evolve to a point where devolved regional
assemblies or parliaments will have the ability to engage in
deficit finance. Thus, as we shall discuss below, Scotland's
putative fiscal deficit or surplus would simply affect the
extent to which it could make a contribution towards any
equalisation arrangement which might be put in place to
allow the UK regions to support each other. We will not,
therefore, discuss the issue of deficit finance in this paper.
The key policy issue that we address here is whether the UK
can continue to live with its current system of fiscal
devolu-tion. There is a reasonably broad agreement that the
current system to allocate government spending in the UK,
the so-called 'Barnett formula', will come increasingly under
fire in the coming years. The reason why it cannot provide a
long-term basis for the UK's system of fiscal devolution is
discussed below.
S e c o n d , if t h e devolved a u t h o r i t i e s are t o be given addi-t i o n a l powers addi-t o raise addi-t a x e s , iaddi-t is likely addi-t h a addi-t p e r s o n a l i n c o m e t a x a t i o n is t h e m o s t p r o m i s i n g f o r m of devolved t a x a t i o n .
The 'Barnett Formula'
Currently, t h e s p e n d i n g b u d g e t s of S c o t l a n d , Wales a n d N o r t h e r n Ireland a r e d e t e r m i n e d a c c o r d i n g t o t h e so-called ' B a r n e t t f o r m u l a ' , a s y s t e m d e v i s e d in 1 9 7 8 , a n d n a m e d a f t e r t h e t h e n Chief Secretary t o t h e Treasury Joel (now Lord) B a r n e t t MP.
Historically g o v e r n m e n t s p e n d i n g per c a p i t a in S c o t l a n d has b e e n higher t h a n in E n g l a n d : in 1 9 9 8 - 9 9 , S c o t t i s h s p e n d i n g per head w a s 2 4 per c e n t higher t h a n in E n g l a n d . Scot-l a n d ' s s p e n d i n g per h e a d even exceeds t h a t of Scot-less w e a Scot-l t h y n o r t h e r n English regions. Over t i m e , t h e s e d i s p a r i t i e s will d i s a p p e a r , t h a n k s t o t h e w o r k i n g s of t h e f o r m u l a ( t h e so-c a l l e d ' B a r n e t t squeeze') w h i so-c h will so-c a u s e s p e n d i n g per h e a d t o converge t o English levels. How q u i c k l y t h a t h a p p e n s d e p e n d s o n a n u m b e r of f a c t o r s , b u t in 1 5 - 1 6 y e a r s s p e n d i n g per c a p i t a in S c o t l a n d will be j u s t 1 0 % a b o v e English per c a p i t a levels, given c u r r e n t m a c r o e c o -n o m i c t r e -n d s .
It s h o u l d be s t r e s s e d , however, t h a t until recently t h e ' B a r n e t t s q u e e z e ' has not o p e r a t e d as envisaged by t h e f o r m u l a . In t h e late 1 9 7 0 s , p e r c a p i t a s p e n d i n g in S c o t l a n d w a s a b o u t 2 2 % higher t h a n in E n g l a n d , so t h e s i t u a t i o n has not d e t e r i o r a t e d . The reason for t h i s is t w o f o l d : f i r s t , b e c a u s e t h e B a r n e t t f o r m u l a w a s not a d j u s t e d t o t a k e a c c o u n t of S c o t l a n d ' s p o p u l a t i o n , w h i c h d e c l i n e d b e t w e e n 1 9 7 6 - 8 8 . However, t h e i n t e n t i o n is t h a t t h e f o r m u l a will be a d j u s t e d to t a k e a c c o u n t of p o p u l a t i o n c h a n g e s , so t h a t t h e ' B a r n e t t s q u e e z e ' s h o u l d t a k e e f f e c t f r o m now o n w a r d s .
A n o t h e r way in w h i c h t h e B a r n e t t a l l o c a t i o n can be by-p a s s e d is if t h e UK g o v e r n m e n t m a k e s d e c i s i o n s w h i c h lead t o a d d i t i o n a l c o s t s f o r t h e S c o t t i s h p a r l i a m e n t (e.g. deci-s i o n deci-s on NHS pay w h i c h apply t h r o u g h o u t t h e UK), or t h e UK g o v e r n m e n t m a k e s a g e n e r a l a d j u s t m e n t t o public e x p e n d i t u r e p r o g r a m m e s w h i c h it w i s h e s t o s e e a p p l i e d u n i f o r m l y across t h e UK. There have b e e n a n u m b e r of o c c a s i o n s w h e n t h e f o r m u l a has b e e n b y p a s s e d . If t h e s e exceptions, w h i c h vary f r o m year to year, occur w i t h a c e r t a i n f r e q u e n c y , t h e n t h e ' s q u e e z e ' w o u l d be d e l a y e d .
However, regardless of w h e t h e r t h e s q u e e z e will o p e r a t e u n i f o r m l y over t h e next d e c a d e t o b r i n g Scottish s p e n d i n g closer in line w i t h English s p e n d i n g levels, t h i s s y s t e m o f f i s c a l d e v o l u t i o n f a i l s on t w o c o u n t s . First, t h e r e is no i n h e r e n t logic b e h i n d t h e B a r n e t t f o r m u l a , which bears no explicit relation to t h e s p e n d i n g n e e d s of t h e devolved a u t h o r i t i e s . S e c o n d , t h e c u r r e n t a r r a n g e m e n t s involve l i t t l e f i s c a l a u t o n o m y , a n d e l e c t e d regional p o l i t i c i a n s are not properly a c c o u n t a b l e for t h e i r s p e n d i n g d e c i s i o n s .
The issue of w h a t level of s p e n d i n g in S c o t l a n d w o u l d a p p r o p r i a t e l y r e f l e c t ' n e e d s ' is d i s c u s s e d below. If t h e
' B a r n e t t s q u e e z e ' is allowed t o o p e r a t e as envisaged, t h e c u r r e n t s y s t e m of s p e n d i n g a l l o c a t i o n may c o m e under a t t a c k f r o m w i t h i n S c o t l a n d . There is no d o u b t t h a t as t h e ' s q u e e z e ' begins to bite it will b e c o m e more d i f f i c u l t for t h e S c o t t i s h Parliament t o s u s t a i n its existing s p e n d i n g c o m m i t -m e n t s . English politicians will also c o n t i n u e to a t t a c k it, especially if d e v o l u t i o n is e x t e n d e d t o t h e English regions. If t h e Labour g o v e r n m e n t m a i n t a i n s its p r o m i s e of c o n s u l t a -t i o n on English regional devolu-tion d u r i n g i-ts s e c o n d -t e r m of o f f i c e , t h e issue of relative s p e n d i n g levels in t h e poorer English regions c o m p a r e d t o Scotland a n d Wales will be u n d e r t h e s p o t l i g h t .
The reason why a s y s t e m of fiscal devolution s h o u l d involve at least s o m e e l e m e n t of f i s c a l a u t o n o m y is t h a t it ensures greater a c c o u n t a b i l i t y . Fiscal a u t o n o m y brings t o g e t h e r t h e a u t h o r i t y t o s p e n d w i t h t h e responsibility of t a x a t i o n , a n d t h i s helps t o p r o m o t e f i s c a l responsibility a m o n g s t local p o l i t i c i a n s a n d e l e c t o r a t e s . To put t h i s a n o t h e r way, allow-ing devolved a u t h o r i t i e s t h e power to s p e n d w i t h o u t t h e responsibility t o tax involves s e p a r a t i n g t h e b e n e f i t s f r o m increased s p e n d i n g f r o m t h e costs of raising t h e required revenue, w h i c h is u n d e s i r a b l e . The j u s t i f i c a t i o n for t h i s s t a t e m e n t c a n be f o u n d in public f i n a n c e t h e o r y a n d can be s t a t e d as f o l l o w s . If local fiscal e x p e n d i t u r e s are f i n a n c e d t h r o u g h l u m p - s u m grants f r o m c e n t r a l g o v e r n m e n t , o n e w o u l d expect a b e n e v o l e n t local g o v e r n m e n t t o allocate s p e n d i n g in s u c h a way as to m a x i m i s e s o c i a l welfare s u b j e c t t o t h e c o n s t r a i n t t h a t t h e entire c e n t r a l g o v e r n m e n t g r a n t is s p e n t . However, each local g o v e r n m e n t does not have any incentive t o consider t h e o p p o r t u n i t y cost of raising a d d i t i o n a l t a x a t i o n (i.e. lower private expenditures). Hence, in s o m e devolved a u t h o r i t i e s public goods m i g h t be over-provided for (the marginal b e n e f i t of t h e public goods provided is less t h a n t h e marginal b e n e f i t of a hypothetical t a x rebate), a n d in o t h e r s t h e r e m i g h t be under-provision. (Unless by s o m e miracle of central p l a n n i n g , c e n t r a l g o v e r n m e n t a l l o c a t i o n s fully m a t c h t h e o p p o r t u n i t y costs of t a x a t i o n w i t h t h e m a r g i n a l b e n e f i t s of a d d i t i o n a l public s p e n d i n g f o r each local g o v e r n m e n t ) . This is t h e s e n s e in w h i c h f i s c a l d e v o l u t i o n w i t h o u t fiscal a u t o n o m y m a k e s local politicians less a c c o u n t a b l e .
Fiscal autonomy - a comparison with other
countries
As s h o w n in Table 1 , t h e UK has one of t h e least d e c e n t r a l -ised tax s y s t e m s in t h e developed w o r l d . This is m e a s u r e d by t h e p r o p o r t i o n of sub-national s p e n d i n g f i n a n c e d t h r o u g h taxes raised locally. Unlike other c o u n t r i e s , t h e devolved a u t h o r i t i e s in t h e UK rely a l m o s t exclusively on hand-outs (block grants) f r o m central g o v e r n m e n t .
revenues collected in t h e i r own territory. In c o u n t r i e s w h e r e t h e s e a r r a n g e m e n t s are prevalent (e.g. Germany, S p a i n , Norway) r e g i o n a l / s t a t e g o v e r n m e n t s do not have t h e ability t o alter tax rates or t h e i r t a x base. Whilst it could be argued t h a t tax-sharing does little to ensure greater a c c o u n t a b i l i t y c o m p a r e d to direct g o v e r n m e n t hand-outs, it shows clearly how m u c h each region is raising in tax. The
cross-s u b cross-s i d i cross-s a t i o n between regioncross-s therefore b e c o m e cross-s m u c h more t r a n s p a r e n t . It does imply t h a t any discussion of expenditure decisions at a r e g i o n a l / s t a t e level is a c c o m p a -nied by a discussion of how regional b u d g e t s are deter-m i n e d .
To go beyond taxsharing towards s u b s t a n t i a l fiscal a u -t o n o m y (as in -t h e USA, Canada, Aus-tralia) s -t a -t e / r e g i o n a l g o v e r n m e n t s have to be allowed t o s e t t h e i r own rates of tax. This is not w i t h o u t p r o b l e m s . It would be u n d e s i r a b l e , given t h e high mobility of businesses, t o give UK regions t h e power t o alter corporation taxes. M o s t s m a l l c o u n t r i e s avoid regional differentials in corporate taxes because they can lead to d i s t o r t i o n s in t h e location decisions by busi-nesses, a n d t a x avoidance t h r o u g h t r a n s f e r pricing arrange-m e n t s . There are also arrange-major a d arrange-m i n i s t r a t i v e costs in varying multi-stage taxes such as VAT at a regional level. E-com-merce is also progressively e r o d i n g t h e ability to vary value a d d e d or sales taxes at a regional level, as many US s t a t e s are f i n d i n g out t o their cost.
If t h e UK w a n t s to extend t h e tax-raising power of t h e devolved a u t h o r i t i e s , it s h o u l d do so t h r o u g h regional personal income t a x a t i o n . In Scotland t h i s would simply extend t h e scope which Holyrood already has to vary t h e rate of income tax. Local i n c o m e taxes are used in s m a l l c o u n t r i e s (Denmark, S w e d e n , Switzerland) as well as large f e d e r a t i o n s , a n d are relatively s i m p l e to i m p l e m e n t .
Devolving personal income taxation - a recipe for
over-taxation?
The issue of whether devolved regional g o v e r n m e n t can lead t o a n excessive burden of t a x a t i o n is a n i m p o r t a n t issue. It is also one t h a t f e a t u r e d prominently in t h e Scottish r e f e r e n d u m c a m p a i g n which led to d e v o l u t i o n , d e s p i t e t h e limited range of tax-varying powers p l a n n e d for Holyrood.
A recent c o m p a r i s o n of t a x a t i o n in federal a n d non-federal s t a t e s has s h o w n t h a t , in g e n e r a l , t h e r e is no evidence t h a t income t a x a t i o n is higher in federal s t a t e s where both n a t i o n a l and sub-national ( s t a t e / r e g i o n a l ) g o v e r n m e n t co-occupy t h e s a m e tax base t h a n in non-federal states. But perhaps this is not surprising, given t h a t t h e c o u n t r i e s c o n c e r n e d include t h e USA a n d S w i t z e r l a n d .
From t h e v i e w p o i n t of economic theory, regional govern-m e n t s will be ligovern-mited in t h e extent to which they can increase personal income t a x a t i o n because of t h e mobility of t h e tax base. Tax c o m p e t i t i o n between regions in f e d e r a -t i o n s has always ensured -t h a -t no single regional
govern-m e n t can steadily increase t h e burden of t a x a t i o n . In t h e Scottish c o n t e x t we have already seen how s o m e political parties have been keen t o c o m m i t not to use the devolved tax powers in t h e f o r e s e e a b l e f u t u r e . Whilst s o m e tax differentials are b o u n d t o arise in a fully devolved UK system w i t h regional taxes, t h e s e d i f f e r e n t i a l s are likely to be s m a l l b e c a u s e of t a x c o m p e t i t i o n .
Paradoxically, a more serious p r o b l e m for t h e regional tax a u t h o r i t i e s is an increase in national t a x a t i o n . If t h e r e are increases in n a t i o n a l i n c o m e taxes, regional g o v e r n m e n t s f a c e t h e strategic p r o b l e m of w h e t h e r to hold their addi-t i o n a l addi-taxes aaddi-t c u r r e n addi-t levels. If addi-they are c o n c e r n e d addi-t h a addi-t addi-this will t a k e t a x rates t o a p o i n t where o u t w a r d migration rates are increased, t h e regional g o v e r n m e n t ' s ability to deter-mine its o w n tax revenue yield will be a f f e c t e d . These strategic i n t e r a c t i o n s between n a t i o n a l a n d sub-national g o v e r n m e n t s co-occupying t h e s a m e tax base are known as vertical tax e x t e r n a l i t i e s , and limit t h e effective degree of fiscal a u t o n o m y g r a n t e d t o t h e regions.
Another i m p o r t a n t issue is whether regions should have any say in d e t e r m i n i n g t h e progressivity of t h e taxation s y s t e m , i.e. w h e t h e r t h e y s h o u l d be able to have s o m e say not only in s e t t i n g t h e basic rate of income tax, but t h e w h o l e s t r u c t u r e of personal income tax rates. Generally t h i s l a t i t u d e is allowed to sub-national g o v e r n m e n t s in federa-t i o n s (e.g. federa-t h e USA, Swifedera-tzerland). Ofedera-ther c o u n federa-t r i e s w h i c h have a d o p t e d local i n c o m e taxation often impose strict limits on t h e a c t i o n s of t h e sub-national g o v e r n m e n t s . For instance, in D e n m a r k sub-national a u t h o r i t i e s can only impose a flat-rate tax which is a d d i t i o n a l to national marginal t a x rates, a n d avoids intense tax c o m p e t i t i o n between geographically small units. These flat-rate piggy-back income taxes are s e t in such a way as t o achieve a balanced budget. A n o t h e r issue which m u s t be c o n f r o n t e d is t h e a d m i n i s t r a t i v e c o s t of allowing very different regional personal i n c o m e t a x s y s t e m s to run side-by-side: t h i s t e n d s t o reduce t h e e c o n o m i e s of scale of having a national tax a s s e s s m e n t a n d c o l l e c t i o n s y s t e m . Having said t h i s , in Switzerland, very d i f f e r e n t Cantonal tax system do seem to coexist.
Should tax-sharing include natural resource (oil
and gas) taxation?
A key issue in t h e UK d e b a t e on devolution is what should h a p p e n t o taxes on n a t u r a l resources. Very few c o u n t r i e s devolve t a x a t i o n on n a t u r a l resources. Those who do are generally f e d e r a t i o n s (USA, Canada), a n d they have done so for historical reasons, as royalties a n d levies were t r a d i t i o n -ally under t h e control of t h e states a n d provinces. In t h e 1 9 7 0 s , natural resource t a x a t i o n has b e c o m e a real issue in these c o u n t r i e s , as resource-rich provinces and states began to w i t n e s s a massive rise in t h e i r fiscal capacity.
r e l a t i o n s w i t h o t h e r provinces in Canada w e r e s o u r e d as it p l a c e d C a n a d a ' s f i s c a l e q u a l i s a t i o n s y s t e m u n d e r pressure. In t h e USA, r e l a t i o n s b e t w e e n Louisiana a n d energy-using s t a t e s were s o u r e d by t h e i m p o s i t i o n by Louisiana of a f i r s t -use t a x t o g e t h e r w i t h an e x e m p t i o n s y s t e m for local Louisi-a n Louisi-a p r o d u c e r s .
Taxation of oil has long b e e n c e n t r a l t o t h e d e b a t e on S c o t t i s h d e v o l u t i o n a n d i n d e p e n d e n c e . W o u l d it m a k e s e n s e for t h e UK t o follow t h e example of f e d e r a l s t a t e s a n d devolve n a t u r a l resource t a x a t i o n ?
The a n s w e r is probably no, f o r t h r e e r e a s o n s . The f i r s t is t h a t t h e c o m p l e t i o n of t h e d e v o l u t i o n s e t t l e m e n t in t h e UK will possibly n e e d t o i n c l u d e s o m e e l e m e n t of f i s c a l e q u a l i -s a t i o n f o r t h e region-s. Devolving tax revenue-s w i l l , a-s in t h e case of C a n a d a , i m p o s e s t r a i n s on t h e f i s c a l e q u a l i s a t i o n s y s t e m . Specifically, oil tax r e v e n u e s f l u c t u a t e over t i m e , a n d are s e n s i t i v e t o t h e c u r r e n t a n d e x p e c t e d f u t u r e oil price. Large f l u c t u a t i o n s in t h e f i s c a l c a p a c i t y of t h e UK regions will not be easy t o h a n d l e in a f i s c a l e q u a l i s a t i o n s y s t e m w h i c h is d e s i g n e d t o s m o o t h o u t t r e n d s in relative f i s c a l capacity. S e c o n d , in t h e case of t h e UK t h e d i s t r i b u -t i o n of n a -t u r a l resources is very u n e v e n , m o r e -t h a n in -t h e USA. Again t h i s a r g u e s a g a i n s t t h e a s s i g n m e n t of n a t u r a l resource taxes t o s u b - n a t i o n a l levels. Devolving p e t r o l e u m r e v e n u e s will require a c o n s i d e r a b l e interregional adjust-m e n t t h r o u g h a f i s c a l e q u a l i s a t i o n s y s t e adjust-m w h i c h will d i s t o r t local t a x a t i o n a n d e x p e n d i t u r e d e c i s i o n s .
The t h i r d reason is t h a t UK oil a n d gas t a x revenues are likely t o s h r i n k c o n s i d e r a b l y over t i m e , a n d d e v o l u t i o n a t t h i s s t a g e will c o m p l i c a t e t h e t a x a s s i g n m e n t a n d e q u a l i s a -t i o n a r r a n g e m e n -t s . The UK's oil a n d gas -t a x a -t i o n c o m e s f r o m f o u r s o u r c e s : p e t r o l e u m revenue t a x , c o r p o r a t i o n t a x , royalties, a n d l i c e n c e f e e s . Of t h e s e , p e t r o l e u m revenue t a x has t r a d i t i o n a l l y b e e n t h e biggest s o u r c e of revenue f r o m oil a n d gas. The t a x yield o n u p s t r e a m a c t i v i t i e s has varied c o n s i d e r a b l y in t h e 1 9 9 0 s , a n d has recently risen a g a i n , a l t h o u g h a m u c h s m a l l e r p r o p o r t i o n now derives f r o m p e t r o l e u m revenue t a x (PRT), royalties a n d licences (respec-tively a b o u t £ 1 billion a n d £ 2 5 0 m i l l i o n in 1 9 9 9 - 0 0 ) . Corporation t a x o n u p s t r e a m a c t i v i t i e s now t a k e s up a m u c h bigger s h a r e ( a b o u t £ 1 . 3 billion in 1 9 9 9 - 0 0 ) . On t h e a s s u m p t i o n t h a t by ' d e v o l v i n g oil t a x e s ' we imply only PRT a n d r o y a l t i e s / f e e s , t h i s w o u l d only i n c l u d e a s u m d e s t i n e d to d e c l i n e t h r o u g h t i m e . PRT revenues have v a r i e d m a r k e d l y in t h e 1 9 9 0 s , a n d are d e s t i n e d t o fall f u r t h e r . One major p r o b l e m is t h a t , a l t h o u g h t h e oil i n d u s t r y p r e d i c t s c o n t i n u e d p r o d u c t i o n for a n o t h e r d e c a d e at c u r r e n t levels, t h e r e will eventually be c o n s i d e r a b l e d e c o m m i s s i o n i n g c o s t s . These are e s t i m a t e d at a b o u t £ 8 . 5 billion a n d m o s t of t h e s e e x p e n d i t u r e s will be a l l o w a b l e for tax p u r p o s e s : even t h o u g h c u r r e n t PRT revenue f l o w s s e e m healthy, they pale
into i n s i g n i f i c a n c e w h e n t h e s e d e c o m m i s s i o n i n g costs are t a k e n into a c c o u n t . K e m p a n d S t e p h e n ( 2 0 0 1 ) e s t i m a t e , u n d e r a variety of s c e n a r i o s for t h e oil price, t h a t f r o m 2 0 1 8 - 2 0 2 5 aggregate PRT relief will exceed PRT payable a n d in s o m e y e a r s reaches £ 1 0 0 m i l l i o n per year even a t a price of $ 2 0 - 2 8 per barrel.
For all t h e s e reasons, it s e e m s s e n s i b l e n o t t o devolve n a t u r a l resource t a x a t i o n in t h e UK, a n d particularly oil a n d gas t a x a t i o n .
Fiscal equalisation
If the UK adopts regional fiscal autonomy or tax-sharing it
will have to confront the problem of redistributing revenues
between richer and poorer regions. Such schemes have a
long tradition in some countries (e.g. Germany, Australia,
Canada, Switzerland), and have recently been introduced in
others to with increasing devolution (e.g. Italy). Those
countries that do not have such systems of 'interregional
solidarity' use central government grants (based on social
need) to perform this task. Imagine a future system of
devolved government in the UK which is extended to the
English regions. There will be wide disparities in the tax
generating capacities of Scotland, Wales, and the North of
England compared to the South of England. Some central
grant allocation based on social criteria or a scheme of tax
revenue redistribution between poorer and richer regions
will be needed.
Measuring need on a regional basis
If c e n t r a l g o v e r n m e n t g r a n t s remain a major p a r t of UK regional b u d g e t s (for instance as p a r t of a regional equali-s a t i o n equali-s y equali-s t e m ) , t h e equali-s e equali-s h o u l d be b a equali-s e d o n equali-s p e c i f i c c r i t e r i a . M o s t other c o u n t r i e s have moved away f r o m historic a l l o c a t i o n s (such as Barnett) t o w a r d s f o r m u l a - b a s e d grants w h i c h explicitly recognise local needs. J a p a n , Spain a n d t h e Nordic Countries all base t h e i r regional s p e n d i n g alloca-t i o n s on m e a s u r a b l e crialloca-teria which reflecalloca-t geographic d i s a d v a n t a g e ( p o p u l a t i o n d i s p e r s i o n , degree of urbanisa-t i o n , c l i m a urbanisa-t e ) , social inequaliurbanisa-ty (relaurbanisa-tive poverurbanisa-ty, h o u s i n g quality), a n d t h e d e m a n d for public s e r v i c e s s u c h as h e a l t h a n d e d u c a t i o n ( d e m o g r a p h i c characteristics).
In J a p a n , f o r i n s t a n c e , 2 4 d i f f e r e n t types of public services are d e f i n e d , u n i t costs of provision are c a l c u l a t e d , a n d m o d i f i c a t i o n c o e f f i c i e n t s are a p p l i e d t o t a k e a c c o u n t of t h e n e e d s of each locality. The m o d i f i c a t i o n c o e f f i c i e n t , which a l l o c a t e s m o r e t o needy regions, will include f a c t o r s s u c h as density of p o p u l a t i o n , c l i m a t e , rapid p o p u l a t i o n g r o w t h , a n d f i n a n c i a l capacity. In S p a i n , a revenue-sharing s y s t e m has been in o p e r a t i o n since 1 9 9 6 . This w a s designed to allow regional g o v e r n m e n t s to f i n a n c e a level of public s e r v i c e s s i m i l a r to t h a t which a p p l i e d prior t o t h e new S p a n i s h d e v o l u t i o n a r r a n g e m e n t s . In d e c i d i n g t h e s h a r e s , w e i g h t s are given t o indicators such as p o p u l a t i o n , relative poverty, insularity, p o p u l a t i o n d i s p e r s i o n , a n d geographical size. In D e n m a r k , social criteria s u c h as single p a r e n t h o o d , quality of h o u s i n g , u n e m p l o y m e n t , a n d a g e i n g p o p u l a t i o n are used t o d e t e r m i n e a l l o c a t i o n s .
proliferates t h e n u m b e r of indicators, a n d results in a f o r m u l a t h a t is so complex as to be poorly u n d e r s t o o d . Other c o u n t r i e s have not b e e n i m m u n e f r o m t h e c r i t i c i s m t h a t , by using a myriad of criteria t o m e a s u r e s p e n d i n g needs, t h e a l l o c a t i o n of g o v e r n m e n t s p e n d i n g is o b s c u r e d . However, it is d i f f i c u l t t o c o u n t e r t h e a r g u m e n t t h a t s o m e objectivity in m e a s u r i n g regional n e e d s w o u l d be preferable t o none. The UK, as far as a l l o c a t i n g its grants t o t h e devolved a s s e m b l i e s is c o n c e r n e d , is o u t on a l i m b .
Conclusion
The current devolution arrangements in the UK have a
limited shelf life. Some politicians and pundits have
recently commented that these discussions are 'purely
academic' or 'ahead of their time'. This is remarkably
shortsighted. Until recently, the UK distinguished itself from
other countries by its emphasis on centralisation and tight
control on local government. Since 1992 we have finally
seen some important changes, with greater trust and
responsibility being placed in devolved government and
local democracy. But the UK devolution project still has
serious flaws. Academics have a duty to point these out
and to propose possible solutions. These issues will soon
be centre-stage in the political arena, and it would be best
not to dismiss them.
References
Bell, D.N.F. (2001). The Barnett Formula.' mimeo,
Univer-sity of Stirling, January.
Bell, D.N.F., Dow, S., King, D. and N. Massie (1996).
Financing Devolution. Hume Papers on Public Policy, vol.4,
n.2
Cuthbert, J. and Cuthbert, M. (2001). 'The Barnett squeeze
in spending review 2000.' Quarterly Economic Commentary,
May 2 0 0 1 , pp.27-33.
Cuthbert, J. (2001). 'The effect of relative population growth
on the Barnett squeeze.' Quarterly Economic Commentary,
May 2 0 0 1 , pp.34-7.
Keen, M.J. (1997). 'Vertical tax externalities in the theory of
fiscal federations.' IMF Working Paper n. 97/173.
Kemp, A.G. and L. Stephen (2001). 'Economic aspects of
field decommissioning in the UKCS.' University of Aberdeen,
North Sea Study Occasional Paper n. 8 1 .
McClure, C.E. and P. Mieszkowski (1983). Fiscal Federalism
and the Taxation of Natural Resources. Laxington MA:
Laxington Books.
Midwinter, A. (2000). 'Devolution and public spending:
arguments and evidence.' Quarterly Economic Commentary,
October.
National Audit Office (2000). Inland Revenue: Petroleum
Revenue Tax. Report by the Comptroller and Auditor
General. HC 5 Session 2000-01 - 14 December 2000.
Ter-Minassian, T. (1997) (ed.) Fiscal Federalism in Theory
and Practice. Washington DC: IMF.
Twigger, R. (1998). 'The Barnett formula.' House of
Com-mons Library: Economic Policy and Statistics Section,
Research Paper n.98/8.
Endnotes
1 For a detailed analysis of the history of the Barnett
formula, see Twigger (1998), Bell et a/. (1996). The
Barnett formula was revised in 1992 by the then Chief
Secretary of the Treasury Michael Portillo. He modified
the formula so that Scotland received a smaller share
(10.66%) of changes in programmes other than Law
and Order, compared to 11.76% under the original
Barnett formula. This was to reflect Scotland's falling
share of the UK population. The share of changes in
expenditure is sometimes referred to as the
Barnett-Portillo factor.
2 Assuming a rigorous application of the formula, and a
growth in UK nominal government spending of about
5%. A lower rate of nominal public spending growth will
delay the adjustment (see Bell et a/., 1996, Bell, 2001).
Another complication is the impact of different rates of
population growth in Scotland (and Wales) relative to
England: Cuthbert (2001) shows that a more rapid
growth rate in population in England can offset the
effects of the squeeze, if combined with a low rate of
growth in public spending (given a constant
Barnett-Portillo factor).
3 This has led some commentators (e.g. Midwinter,
2000) to support the continuance of the Barnett
formula as convergence has been negligible in the
1990s. However, as pointed out by Cuthbert and
Cuthbert (2001), the offset in convergence in the
1990s is probably attributable to once-and-for-all
effects such as faster relative population growth in
England and increased spending outside the formula.
4 Indeed, matters are made worse in the UK by the
complexity of the Barnett formula, and the fact that
some UK spending decisions by-pass it. This makes it
very difficult for the average voter to discriminate
between different policy platforms in Scotland because
each politician has an incentive to obfuscate the issue
of affordability in promoting spending decisions. The
political economy of devolved government may also be
made more complex by the fact that if different parties
hold power in Westminster and in the devolved
authori-ties the incentives to bypass the Barnett formula will be
less than if the same political party holds power in
both.
6 Although some degree of horizontal equalisation of tax
capacity is undertaken - see below.
7 For an outline of the Lousiana v Maryland case which
led to a ruling by the US Supreme Court, see McClure
and Mieszkowski (1983).
8 See Ter-Minassian (1997).
9 See the National Audit Office (2000) report on PRT.
10 See National Audit Office (2000).
1 1 If decommissioning is incurred at the end of a field's
life, it can be used to offset profits made earlier in time
in the field. Where it exceeds these profits it can be
used to offset profits made in other fields.
12 In the UK the only needs assessment of England and
the three devolved authorities was conducted in 1979
(see Bell et a/, 1996). The Treasury study concluded
that, in order to provide the same level of service as in
England, spending per capita in Scotland would need to
be 16% higher than in England. In Wales and Northern
Ireland the assessment was that spending per capita
would need to be 9% and 3 1 % higher than in England.
Tablel: fiscal devolution - a comparison of various OECD countries
USA
Canada
Australia
Japan
Germany
Italy
Degree of
fiscal
Autonomy
182.0%
46.0%
61.0%
42.9%
56.1%
51.9%
Tax
Sharing
No
Partial
No
Yes
Yes
Yes
Spain
61.4%
Switzerland 73.0%
Denmark 72.2%
Norway 52.2%
UK 13.1%
Yes
Partial
Partial
Yes
No
Main types of taxes raised at local or regional/state level
Most States rely on own personal income, corporate income and
sales taxes.
Provinces relay mainly on personal income, corporate income
retail sales and natural resource taxes.
States rely mainly on taxes on goods and services, payroll,
property and public enterprise surpluses.
Local taxes mainly on inhabitants, enterprises and property.
Local/regionalauthorities have little power to vary rates.
States mainly rely on tax-sharing with Federal government.
Wide range of regional/local taxes including: health, petrol, vehicle
registration, business value added, personal income surcharge, and
property taxes.
Regions depend mainly on tax sharing and property and motor taxes.
Basque Country and Navarra enjoy greater autonomy.
Cantons levy taxes on personal income, and motor vehicles.
Mainly local income taxation using flat rate tax.
Mainly tax sharing.
Property taxes at local level; Scotland has limited powers to vary basic
rate of income tax.
Central
Government
grants to
devolved authorities
based on special
regional needs
and
Yes
No
No
Yes
Yes
Redistribution
between poorer
and richer
regions to
help equalise
tax capacity
No
Yes
Yes
No
Yes
Yes
Partial
Yes
Yes
Yes
Yes
No
Partial
Yes
No
No
No
Notes:
Reliance by devolved authorities (regional and local) on local taxation revenue plus tax sharing relative to central government grants for expenditure plans (expressed as percentage of spending financed out of regional and local taxes).
