Chamber and committees

Let me say two things about that. If we applied that approach across the board, you would not see any more folk coming into the NHS, social care or Social Security Scotland, which is still expanding its services. I was imparting to you that there needs to be a recognition that there are still some areas of growth. That does not mean that all areas of the public sector will grow—I will come to the figures for the core civil service in a second—but it does mean that a more nuanced approach is required to recognise that there are some areas, in social care, the health service and Social Security Scotland, that need to continue to grow.

On a point of agreement, if I can be helpful, part of the constraint on costs going forward is because the workforce in the public sector, regardless of which part, needs to be affordable. We cannot afford a workforce that there is not the money for, and that is a key element. Civil service numbers dropped marginally over the last reporting period, and workforce recruitment controls are in place across the civil service. There is a recognition that areas where there are new developments and policy areas may need to be treated differently from other parts of the core civil service. If you are asking me, bluntly, whether the size of the workforce will need to reduce over time, the answer is yes, it will. However, within that, there will still be areas where it does not reduce, for the reasons that I have just set out.

First, that is part of the discipline. At my very core, I absolutely want to make sure that we get maximum value for the public purse from every pound that we spend. On a point of absolute fact, when we talk about the overrun of costs in Ferguson’s or anywhere else, which I have made very clear is not acceptable, let us not make out that that money is baselined into budgets and has to be there as part of the resource budget. You cannot compare project spend with the resource budget that pays the wages: the two things are very different. I am not saying that the overrun in costs is acceptable, but let us not conflate the two, because they are very different things.

If I was sitting here as the Welsh finance minister, I would say to you that the problems in Wales are, if anything, even greater than the problems in Scotland, not because the Welsh Government has been profligate with the money that it spends or has made mistakes, but because it does not have the necessary levers at its disposal to deal with the headwinds of rampant inflation and economic shocks, all of which impact on budgets. We do not have the levers in Wales, Scotland or Northern Ireland to deal with the headwinds. In Scotland, we have some additional levers at our disposal, which the Welsh and Northern Irish do not have, to help us balance our budget, even though that is proving to be extremely challenging this year.

If the ministers from Wales and Northern Ireland were sitting here now, they would tell you that the prospect of being able to balance budgets is getting increasingly difficult. They have told the Treasury that over and over again. There is an issue, and it has been brought into stark contrast by all the headwinds that we have discussed. To date, that has not been heeded or listened to. This year will, I think, expose very clearly some of the limitations of those levers.

From Scotland’s perspective, as I said, we have levers at our disposal, thankfully, that Wales and Northern Ireland do not have. We will have to use those levers, and we will use them, but it is becoming increasingly difficult—because of those headwinds and the limited levers that we have—to do the thing that we are legally required to do, and that is to balance our budget. I cannot put any gloss on it. Those are the same messages that were put to the Treasury, sitting in a room not dissimilar to this, by our Welsh and Northern Irish colleagues.

I thank the committee for inviting me here today. As I said in the chamber, this is the first MTFS that I have published as finance secretary. It is transparent about the issues that we face as we look at the public finances over the next five years, and it sets out how the Government will maintain a sustainable financial position over the medium term.

Although the Scottish economy has proved to be more resilient than expected, the fiscal outlook remains among the most challenging since devolution, with the Covid pandemic, the war in Ukraine and soaring inflation putting significant pressures on the economy, on society and, of course, on public finances. We are committed to tackling those pressures head on, which is why I have ensured that the MTFS does not shy away from highlighting the scale of the challenge ahead.

Although I welcome the recent fall in inflation, falling inflation does not reverse the increasing pressure on households and businesses, with prices expected to be about 20 per cent higher by the end of 2023 than they were at the start of 2020. Indeed, we are experiencing record falls in living standards, which are not set to recover to pre-pandemic levels until about 2026-27.

The Scottish Government’s resource funding outlook has improved since the 2022 MTFS. The main drivers in that regard are significant improvements in the forecast net tax position, which has increased by an average of £1.1 billion per year since May 2022, and increases to the block grant as a result of announcements in the autumn statement and spring budget.

However, the funding outlook for the next financial year—2024-25—is set to be particularly challenging. The SFC has stated:

“Once we account for social security spending plans and ring-fenced Scottish local authority funding, we expect there to be less real-terms funding in 2024-25 than there is in 2023-24.”

We anticipate a negative tax reconciliation of £687 million, according to our current forecast, with the original forecasts having been produced at a time of significant economic uncertainty caused by the Covid-19 pandemic. As that figure exceeds the Scottish Government’s borrowing limit by £387 million, it will reduce the amount of funding that will be available for the budget. We also expect a small real-terms reduction in the block grant next year.

The risk of reconciliations for forecast error exceeding the Government’s borrowing limits will continue to grow. Borrowing powers are fixed in nominal terms, so there is now a 14 to 27 per cent probability of total negative reconciliations breaching the £300 million annual borrowing powers for forecast error. Therefore, I will continue to press the United Kingdom Government for further powers and for these limitations to be addressed as part of the fiscal framework review.

With regard to resource spending, our projections show an increase in spending from £45.2 billion in 2023-24 to £52.8 billion in 2027-28, meaning that our spending requirements could exceed our central funding projections by £1 billion in 2024-25, rising to £1.9 billion in 2027-28.

The key drivers for spending growth are the public sector pay bill, social security and health and social care. Inflation has significantly eroded our spending power, particularly on pay, as fairer pay deals for our valued public sector workers to support them through the cost of living crisis are driving spend above what was modelled at the resource spending review.

The pressures are also severe on capital spending, with the price of infrastructure projects rising by 14.1 per cent this year, according to the Office for National Statistics. The UK Government’s failure to inflation proof our capital budget means that we are facing a real-terms cut every year up to 2027-28. Again, the challenge is particularly acute in 2024-25, when funding will reduce by 3.7 per cent in real terms.

On the current trajectory, we expect the divergence between capital funding and expenditure to grow to around £900 million by 2025-26. Therefore, these are incredibly challenging times, and I am committed to taking the difficult decisions in managing our public finances over the medium term in order to deliver on the key priorities for the people of Scotland and to mitigate the pressures that are being felt by Scotland’s most vulnerable people.

This MTFS sets out the three pillars that will underpin that approach. The first pillar is a focus on public spending to achieve our three critical missions: a commitment to prioritise exploring targeting and adopting a multiyear approach to the budget; delivering a refreshed set of actions, as initially set out in the resource spending review; and delivering a 10-year programme of public service reform.

The second pillar is supporting business to invest and to create new jobs. We recognise the link between economic and fiscal policy to support sustainable inclusive growth and the generation of tax revenues. As well as supporting entrepreneurs, start-ups and scale-ups and helping business raise productivity, we need to find the fiscal headroom to expand our childcare offer, as that will be a key part of our approach.

Finally, the third pillar of our approach is maintaining and developing our strategic approach to tax policy. Our key commitments in that regard include establishing an external tax advisory group this summer, with the outcomes feeding into next year’s budget and the Government’s longer-term tax strategy, which is to be published alongside the MTFS in 2024.

The Scottish Government will continue to do everything possible with the limited levers that we possess to manage our public finances on a sustainable trajectory, and as part of the fiscal framework review, we will continue to make the case for having the fiscal powers and levers to enable us to meet the fiscal challenges now and into the future.

Clearly, it is a very challenging situation, given that the levers that we have do not allow us to cover that extent of negative tax reconciliation. We have the ability to cover up to £300 million, but that leaves a considerable gap, which is a challenge. As you can imagine, that is one of the key priorities in our discussions with the UK Government around the reform of the fiscal framework review.

We require a number of additional levers to manage not only negative tax reconciliation but peaks and troughs and economic challenges and events—for example, Covid and other shocks—that we do not have the levers to deal with, given our largely fixed budget and limited borrowing powers. At the top of the list in relation to the review is to gain a more expansive borrowing power to be able to manage the negative tax reconciliation.

As I said in my opening statement, the reason for such a large negative tax reconciliation related to the forecasts that were made during Covid and which, given the economic shock at that time, were clearly out. Two years later, we are having to deal with that, and in our discussions with the UK Government, we will want to press it for more flexibility in dealing with next year’s negative tax reconciliation or any that should arise in future. I should also say for completeness that we anticipate the tax reconciliation forecast being in a much more positive position beyond next year, but we still have to deal with next year.

We are not starting from scratch here. You will have heard my predecessor, John Swinney, talk a lot about public service reform. We have worked over quite some time to get public bodies thinking in a more sharply focused way about efficiency, how they work with one another and their future plans for delivering better outcomes in a more efficient way.

There is a 10-year programme of public service reform that seeks to do all that. My job is to bring a pace and acceleration to that work across Government, to have a radar beyond the individual bits and to ask, “What does that look like as a collective public sector picture?” I also need to ask how we make sure that we do not just do the minimum in that space, but that we get every public body to maximise what they do in the most efficient way. I mentioned NRS and Scottish Water. How do we link up the best performing bodies and make sure that what they have done happens everywhere?

You are absolutely right about the constraints on migration. I saw that there was quite a lot of commentary from the business community this morning about the challenges that businesses are having in recruiting to large sectors of the tourism industry. Business is very clear that that is down to them not being able to access the labour from the European Union that they were previously able to access. They are very explicit about that.

We are trying to do what we can. We are about to launch our new talent attraction and migration scheme, which attempts to encourage people to come and live and work in Scotland. As I said earlier, there are plenty of opportunities for people to do that and we want to promote those opportunities.

You asked about bringing those issues into discussions about the fiscal framework. You will appreciate that a lot of those discussions are quite technical because they concern issues such as borrowing powers, limits and the reserve, rather than necessarily being about the wider policy issues that form part of the backdrop to all this. That does not mean that such issues are not important—we raise them with the UK Government all the time—but the negotiations on the framework will be about the technicalities of what the framework is at the moment and the key things that need to change and be adjusted that will make a difference to our ability to smooth out things such as negative tax reconciliation. That will not be job done, however. Getting some adjustments to the framework is just part of a process. We want those additional levers, including over migration. Those discussions, calls and asks will of course continue beyond the detail of the framework.

As the committee is aware, the programme and the parliamentary timetable around the national care service were paused in order to create some space over the summer for us to reach a more consensual position, not least with local government, which means that the financial statement around the national care service will need to be revised, too. The minister has committed to providing that information in advance of stage 1 of the National Care Service (Scotland) Bill, so that work is on-going.

As I have said previously, the national care service—as a former home care organiser, I could speak for the whole committee session about this, because I have seen up close and personal where the system does not work for people—will be important in ensuring that there is more consistency around national standards and ways of delivery so that people get the service that they would expect no matter where in Scotland they live. How we get to that point will form part of the discussions that will take place over the course of the summer. We need to have reform in that space.

As with systems everywhere in the UK, across Europe and beyond, the growth in the overall health and social care budget has been driven mainly by demographics—we have an ageing population for which we need to provide—and a workforce that continues to grow. We have had many discussions in Parliament about the need to avoid hospital admissions and to change some of the systems in order to sustain people in a way that does not result in everybody ending up in the acute system. Reform is an important part of that issue, as is ensuring that the spend can deliver what needs to be delivered.

Public bodies absolutely need to get out of their silos, but I think that they recognise that. The opportunity for shared services, for example, is being actively looked at and should be actively looked at. There might be opportunities for organisations to go further than that through mergers.

Local authorities are in a bit of a different position, because they are independent organisations. However, many of them are looking at the potential to work more closely with their neighbouring authorities on shared services. There are also discussions about whether local authorities can share people where there are discrete, specialist roles, rather than each of them trying to recruit from the same small pool of specialists.

I think that, given the opportunities through the new deal, there is an appetite for things to be done differently. There is active discussion in Orkney and the Western Isles about a single island authority. That is something that they have raised previously, and they are keen—I guess that “champing at the bit” might be the description—to get on with it. Again, the driver for that is that trying to recruit people, particularly to leadership positions, involves all the different organisations fishing in the same small pond. They have come to us and said, “We need to do things differently,” and we want to encourage that.

There are some issues to be overcome, not least given the point that you made about the relationship between local authorities and health boards and the lines of accountability there. However, those issues are not insurmountable. Where there is a will, there is a way. We want to be very encouraging and permissive where local government and other parts of the public sector generate ideas for reform, rather than saying, “No, it’s always been done this way.” The idea of a single island authority could end up being a trailblazer for how things might be done differently elsewhere, so it is maybe one to look at.

We have raised capital expenditure as a key concern in relation to the budgets and the fiscal outlook. We have made all those points that, in terms of recovery from Covid and the cost of living crisis, investment in infrastructure is key and reducing that investment is the wrong decision. We have made all those representations robustly.

Will that position change? The outlook is the outlook. As things stand, there is no sign of that changing. However, we will watch the autumn statement carefully to see whether there is any recognition that reducing capital budgets is not the right policy or direction of travel at this time. I can tell you only what is in front of us at the moment, which is a very difficult outlook on capital.

I have set out three areas in relation to public finances. The first is prioritisation and ensuring that we are targeting and examining all our programmes—as people would expect any Government to do. The second is that we increase our tax base so that we keep more of the tax that we raise. The third is continued consideration of what our tax policy is. All those levers are equally important in ensuring that our public finances are sustainable and that we can create headroom.

Looking to the future, we will need to see what the Chancellor of the Exchequer’s autumn statement brings on whether the position on the block grant will improve over the next few years. We just do not know that. We also do not know whether there will be potential for consequentials in areas including childcare. Of course, those will have to be factored into all our policies.