Peter Barnett, a policy analyst in the House of Lords, gives his initial view of the Spending Review and its impact on financial services.
The Comprehensive Spending Review (CSR) published on 20 October provides details of how Whitehall departments will reduce their budgets over the next four years as ministers look to cut spending by £83bn to address the £935bn national debt and £109bn structural deficit.
Government spending in 2009-10 was £669bn, next year expenditure will be £651bn, says the chancellor and it will rise steadily to £693bn by 2014/15. It is a cut in real terms, because spending is planned to rise more slowly than inflation.
According to Government the drivers for change were reform, fairness and growth and, while the devil will be in the detail, which will emerge over the coming days, some departments - health and international development - have escape relatively unscathed but others face significant reductions.
I think the Chancellor has been quite clever in balancing these cuts but while, despite the bank levy, I suspect responses from the City will be quite muted, the reductions in social housing provision may lead to some protests from groups associated with poverty reduction.
The average cut in Departmental spending is around 19%, but there are some winners in that the Equitable Life claimants will get £1.5bn in compensation but prisons may have to close, we face higher train fares, a much smaller defence capability and many bodies backed by the Arts Council will have funds cut.
490,000 public sector jobs will go by 2014, and while the government hopes the private sector will be able to provide jobs lost in the public sector, Labour and the unions argue there is not enough growth in the economy to cope with cuts on this scale.
The welfare and pensions agendas are perhaps the most challenging tasks that the Government faces. Welfare is looking at £7bn of additional cuts, to give a total reduction of £18bn, and the Government has created a single welfare to work programme to help unemployed people get back into work - it will always pay to work - and £2bn will be provided to the regions to assist this change.
The benefit system is being reformed to make work pay by having an upper limit on total benefits per family. Rents are to rise sharply for new tenants of council housing and new tenants will face higher rents at 80% of the market rate - though current tenants will see no change.
As for pensions the earnings link for the basic state pension from 2011 with a triple guarantee that pensions are raised by the higher of earnings, prices or 2.5 per cent and a review has been launched on how to make auto-enrolment work.
The Government is holding a review to set the date at which the state pension age starts to rise to 66. This will be completed by 2020 and the rise in female pension age will be speeded up.
Child benefit is already being axed for all higher-rate taxpayers from 2013 but pensioner universal benefits have emerged unscathed. Local Authorities will find their funding from central Government is being reduced by around 7% and will thus have to seek significant reductions in the scope and scale of services. It is also fair to suggest that cuts in local council budgets will have knock on-effect on health services.
The Health Department is the only major area of Whitehall spending in which there will be a rise in real terms. However, because of the increase in health care costs and the ageing population, there will still be cutbacks. Some hospitals are likely to close or merge and management costs will be halved.
About 30 health quangos will be abolished. As a result, NHS organisations expect to make a total of £20bn in savings over three years. GPs are being given control of the NHS budget, in the hope they will spend the money more carefully - that could mean fewer people will be referred to see specialists.
Impact on financial services
The changes in practice around ‘return to work', ‘pension age' and ‘health choices' agendas cohere very well with both Income protection and Medical insurance propositions and, in the context of reduced Council funding, once the new commission on the funding of long-term care reports we can expect some viable LTC funding propositions to emerge, in context with pensions reform, care annuities and equity release.
Education, information and advice issues will need resolving but overall the picture is positive providing the risk profiling requirements can be managed. However the impact on pricing and margins may be less welcome.
Over the next couple of years I expect premium rates to fall further in the UK, but in the longer term I can see rates rising, possibly by upward of 30% as the I minus E taxation on expense proposals, the rise in VAT to 20% and the greater reserving implications of Solvency 2, come fully into play.
This is poor timing, for in the face of increased savings rates and debt - such as pension contributions and graduate taxes - the implication for most people is for lower disposable income. Thus spending on discretionary purchases, such as Protection insurance must come under pressure.
The group most affected by these cuts look like being married individuals, on average UK wages, aged 25-40, with a family and unadvised. The so called ‘squeezed middle classes' and exactly the target market for closure of the protection gap and lying outside the scope of RDR.
I think this means many IFAs will soon be facing big decisions around the nature of their business. Do they remain independent, relying on a high net worth clientele, or look to a restricted model for the mass market, facing all the issues above?
As margins tighten further, in order to get the critical mass required to operate efficiently in this new climate I can only envisage further sectoral consolidation.
Peter Barnett is a policy adviser in the House of Lords, an Advisory Board member of the Society of Later Life Advisers and Chair of the Continuing Care Conference
