Top-ups needed to restore real-terms spending power

Back in October, the government said its funding for health and social care represented average annual real terms growth of 4.1% from 2022/23 to 2024/25. The real-terms calculation takes account of inflation as measured by the GDP deflator. This general measure for inflation is regarded as a better indicator of cost pressures facing public services than the consumer price index, which measures the rate of inflation facing households.

The spending review figures were based on Office of Budget Responsibility (OBR) forecasts that the GDP deflator would average 2.3% over the three-year period. However, by March this year, the OBR had increased this forecast to an average of 2.8% - reducing the real terms growth for health and social care by 0.5%.

While the CPI is subject to regular forecasts, this is not the case for the GDP deflator and the March forecast remains the most recent. However, in new analysis, the IFS has now estimated that GDP deflator inflation is likely to be closer to 3.7% on average over the three years – 1.4 percentage points higher than the spending review assumption. This calculation is based on recent changes in CPI and the past relationship between the GDP deflator and CPI.

Using this approximation for the GDP deflator – which the IFS said could prove to be an underestimate – the planned growth rate for the Department of Health and Social Care drops from 4.3% to 2.9%. (The IFS has used figures from the more recent Spring statement to set the baseline for spending in 2021/22. This reported Departmental spending of £146.1bn for the year compared with £147.1 reported in the spending review. This changes the original planned average real-terms increase from the 4.1% reported at the time of the spending review to 4.3%.)

Senior research economist Ben Zaranko (pictured) said that the increases for the health department, along with the Department for Education, were frontloaded, with big increases in the current year and much smaller increases in subsequent years. He said this meant both departments faced real-terms budget cuts between 2022/23 and 2023/24.

The IFS has estimated the spending top-up that would be needed across all government departments collectively so that they were no worse off in real terms than they were planned to be at the October spending review. ‘Under our estimated path for the GDP deflator, that would require more than £8bn this year (2022/23) and around £18bn in each of the next two years (2023/24 and 2024/25),’ said Mr Zaranko. ‘Even under the OBR’s out-of-date March forecasts, departments would require an extra £4bn this year (followed by £5.5bn in each of the following two years) to be fully compensated.’

He added that choosing not to compensate departments for the unexpectedly high cost pressures would be a ‘deliberate decision to cut spending in real terms’ at a time when many public services were showing signs of strain.

Dr Layla McCay (pictured), director of policy at the NHS Confederation, said NHS leaders had been warning for some time that the increases in inflation were wiping out large parts of the NHS budget. ‘This isn’t an abstract problem as the gap in funding will either have to be made up by fewer staff being employed, longer waiting times for care or other areas of patient care being cut back,’ she said.

She called on the new prime minister to provide a top-up in the autumn Budget or any emergency Budget to make up the shortfall. ‘The NHS needs at least £3.4bn to make up for inflation during this year alone and as this briefing from the Institute for Fiscal Studies shows, a failure to compensate the Department for Health and Social Care for the impact of inflation will only heighten pressure on the NHS as we move towards a winter that we know will be particularly challenging this year.’