Skip to main content

Local Government Finance

Volume 461: debated on Wednesday 6 June 2007

I am extremely grateful for this opportunity to talk about the reform of local government finance, and I thank the Minister for coming along to this debate.

In a sense, we are all localists now. At least, all the mainstream political parties are paying lip service to localism and talking the language of localism. Labour Ministers are tripping over themselves to tell us how they will devolve power to local communities. The Conservative party—my party, which used rate-capping and abolished the Greater London council—is building a new modernist agenda based on localism. The Liberal Democrats have been talking about devolving power from Whitehall to town halls for as long as any of us care to remember.

There is a danger in having an orthodoxy in politics, in that localism could mean all things to all people. Therefore, we need to introduce a litmus test for localism. For me, the litmus test is the extent to which a political party is willing to localise control over finance. In Britain today, central Government collect more than 90 per cent. of public revenue. They have a near monopoly on tax revenue. Among Organisation for Economic Co-operation and Development countries, only in Ireland is a small percentage of local government finance collected locally. In the United States, some 62 per cent. of local spending comes from local sources. In France and Germany, it is some 66 per cent. In Britain, on the other hand, a mere 25 per cent. of what our local councils spend is collected locally.

I shall not give a detailed description of the minutiae of local government revenue streams—that would be tedious and take a long time. Briefly, revenue support grants constitute nearly one third of local authority income. Critically, those grants are awarded on the basis of Whitehall’s calculation of local need. Also set centrally are specific and ring-fenced grants, and the national non-domestic rates, which make up about one fifth of local authority revenue. Only a tiny element—one quarter of local revenue—is left to local discretion. Two thirds of that comes from the council tax, and the remaining third comes from other charges.

There are consequences to fiscal centralism. There is an economic cost, in that it rewards inefficient councils. With central Government’s allocation of grants being made on the basis of their assessment of local authority spending needs against the actual level of service, there is a perverse incentive at work. A local authority that is good at turning tax pounds into high-level public services will not qualify for as large a grant as one that is less efficient.

I believe that the political consequences of fiscal centralism, however, are more serious. There is less local accountability in local government. There is no longer the correlation that there once was between how someone votes and what services they receive locally, what priorities are set locally and the taxes that they have to pay. There is much less local democracy. The scope for a slate of candidates from any party to stand for office proposing a radically different set of tax-and-spend alternatives is diminished, and as a result there is less pluralism. There is a uniformity of provision, process and output, whereas I believe that local government should be a rich mosaic of diversity and should offer different local solutions to different problems.

Most worrying of all, fiscal centralism causes voter resignation. Turnout for the past three local elections in England has hovered between 29 and 39 per cent. It would be a grave mistake to regard that low turnout as a sign of contented voter apathy. Far from being contented or apathetic, voters are resigned. A MORI poll showed that 91 per cent. of the public were dissatisfied with the services provided by their local authority. Sixty per cent. believed that their local authority gave bad value for money, yet a far smaller percentage bothered to vote and do something about it on election day. I believe that voters have perceptively clocked that it does not really matter whom they vote for or how they vote in local elections. The key decisions—how often bins are emptied, the rate of council tax—are made by officials in Whitehall, and funding is provided through bureaucratic formulaic calculations.

How then should we make town halls more self-financing? Rationally, there are two categories of option. We could solve the balance-of-funding problem by massively centralising expenditure, but I would not advocate such a solution as it would destroy any remaining semblance of local democracy. The other alternative, if we are serious about making town halls more self-financing, must logically be to devolve revenue-raising powers from central to local government. To make town halls entirely self-financing, revenue from devolved tax raising powers would have be about £80 billion. I am not suggesting that town halls are made 100 per cent. self-financing, but we could take steps towards that by devolving national revenue streams that are currently used to collect tax centrally to local authorities. I emphasise that that is not about additional taxes. I am not proposing what Lyons suggested in his inquiry and trying to invent new forms of taxation; I am talking about the devolution of existing central revenues to the town hall.

Any reform that devolves tax revenue streams must adhere to four key principles. One is local accountability. Local authorities must be accountable for how they exercise any new revenue-raising responsibilities. There must also be transparency as local taxpayers and voters need to know to whom they are paying tax and for what. There also needs to be cost-effectiveness and fairness.

What are the options? One solution is a local income tax, which has been an option since the Layfield committee proposed it in 1978. The Liberal Democrats have advocated a local income tax for as long as anyone can remember. In Sweden people have municipal services funded through a system of local income tax. It is an option and I do not dismiss it out of hand, but I do have a couple of reservations. If one is to have a local income tax, either it should be a genuine local income tax that is collected, set and administered locally, in which case the cost of collection would make it an inefficient solution, or it would have to be based on Liberal Democrat party policy. That would involve a local income tax that is in fact collected centrally, in which case there would be problems of accountability. I hope that hon. Members will excuse the slightly wonkish language, but such a tax would become, in effect, a locally hypothecated band sitting on top of what remained a national income tax. In what sense would that be perceived as a local tax?

Another alternative—the one that I believe comes closest to solving the problem—is VAT, which raises a revenue stream for Whitehall of about £80 billion. By happy coincidence, that is approximately the amount that Whitehall pays to the town halls through various forms of subsidy and grant. Could we localise VAT revenue? I believe that we could and that we could go further and turn VAT into a local sales tax. VAT is, of course, charged at every stage in the transaction process; a local sales tax would be charged only at the point of retail. Tax jurisdictions at county or metropolitan level could each set their own rate. In short, we could abolish VAT, replace it with a local sales tax, and scrap the council tax-based system of local government finance.

Such a system would be devolved rather than additional taxation and there would be local accountability. People would know what services they were getting and would pay through their taxes for what they voted at the ballot box. It would be cost-efficient. At present, VAT is an extraordinarily expensive and complicated tax to collect and an army of businesses—large and small—are co-opted, often against their will, to be unpaid tax collectors of the state. With a local sales tax, that would simply fall away and the only liabilities would be calculated at the point of retail. It would be a fair system and it would be a tax on consumption.

Figures from the Institute for Fiscal Studies show that, under such a system, the tax bill as a percentage of household expenditure would be pretty equal across each income decile. There would be drawbacks—for example, equity. Different tax jurisdictions would have different tax bases capable of generating different levels of revenue, so there would be some need for a top-up scheme. The scheme would contravene our EU treaty obligations. Currently, EU rules govern our VAT system. We could renegotiate, and as someone who advocates that the United Kingdom should withdraw from the European Union, I do not consider that a barrier to the proposal. If we could axe VAT, restore local democracy to England and the European federalists objected to it, that would be the icing on the cake.

Some people say that different tax jurisdictions with different rates would lead to evasion—as one Tory Minister once put it, there would be the smuggling of butter across the south downs. There is currently massive VAT evasion and I do not believe that this system would be any worse. A good deal of data suggest that tax would be less easy to evade under my proposal. In the longer term, there would be the advantage of tax competition between different tax jurisdictions. I believe that the system would also lead to more efficient local government as the rate would have to be set at a level that generated a high rate of taxation without harming small or big businesses. Local government would try to squeeze efficient value for money out of every tax pound collected.

My hon. Friend has obviously given the issue a great deal of thought. Can he explain how he would bring in a form of equalisation, bearing in mind the differences between sparsity and density?

There would need to be a system of top-up. The Government would need to take revenue centrally from certain tax jurisdictions with tax bases that generated a lot and allocate that money to jurisdictions with smaller tax bases. However, the local authority would be able to do something if its jurisdiction was unattractive to businesses. In the age of the internet, online shopping and increasing mobility, it would be possible for a tax jurisdiction to make itself more attractive to businesses than is currently possible.

In conclusion, the current council tax-based system is losing its legitimacy. If 50 people refuse to pay their council tax, they have a problem; if 50,000 refuse to pay, the state has a problem. I sometimes wonder whether the people in Boston in the 1770s felt about tax as people increasingly feel about council tax today.

During 10 years, we have had a 90 per cent. hike in council tax, but we have not had a 90 per cent. increase in books in our public libraries, in police on our streets or in waste disposal and rubbish collection. The Westminster village and the political establishment need to seriously question the future of local government finance. I hope that I have provided some helpful suggestions as to how that can be done.

I am grateful to have the opportunity to make a brief speech on the important subject of local government finance. I congratulate the hon. Member for Harwich (Mr. Carswell) not only on securing the debate and providing the opportunity to debate the subject, but for two other reasons. First, it is refreshing and interesting to have an opportunity to discuss a big-picture subject that is not necessarily within the confines of party political thinking. Secondly, the hon. Gentleman’s pursuit of the issue of localism is done with huge vigour and energy and it is refreshing and interesting to hear his latest thoughts on the subject.

I agree that there is a greater interest in localism and how services can be devolved to a level closer to the citizen. I would like to see more of that happening and for parties from across the political divide to grasp that agenda. The hon. Gentleman is right that the Liberal Democrats have a long track record in that respect. However, I say these words of caution to my party: localism is not just about devolving power from one tier of government to a more local tier; it is also about empowering individual citizens, giving them choice and putting power in their hands. I would like to see my party and the political classes within Westminster grasp that emerging agenda.

I accept the hon. Gentleman’s point that local government finance is far too centralised and that local councils’ discretion in how they raise and spend revenue is extremely limited. That diminishes the power of local government to make meaningful decisions on behalf of the people they represent, which diminishes the entire political process. If councils have little scope to raise revenue and nearly all their money is ring-fenced in relation to how they are allowed to spend it, the ability of any politician to outline a vision for change in their community is severely compromised. That acts to the detriment of everyone who wants local government to be successful.

I turn to how we should finance local government. Council tax has been particularly problematic for people on fixed and low incomes. The group that most obviously comes into both of those categories is pensioners and, in his report, Sir Michael Lyons recognised that council tax is particularly unfair to pensioners. Local income tax, which has been proposed as an alternative by my party, has the advantage of having a direct correlation between income and the degree to which someone is taxed. In the context of this debate, it would also offer the scope for a corresponding reduction in national tax and a transfer of tax-collecting ability from the Treasury—the centre—to individual councils at a lower tier. That would, I hope, provide an opportunity for a rebirth for local government.

I end my remarks with this observation: we need greater accountability in local government, which is why I oppose the creation of a single unitary authority in Somerset, for example. We need greater flexibility and autonomy in local government. I hope that all those things will contribute towards a rebirth not only of local government, but of our entire civic life.

It is good to see you in the Chair for this debate, Mr. Bercow. Congratulations are due to the hon. Member for Harwich (Mr. Carswell) on putting forward his ideas. The debate gives us an opportunity—in this instance, in a non-partisan way—to debate policy ideas, which is the rightful job of Parliament. We have three proposals before us: a local sales tax, a local income tax and a property-based tax with a personal element.

Hon. Members might recall that, in 1981, the then Government, with Michael Heseltine as the responsible Minister, published a Green Paper containing those three options, but of course it contained a fourth option, which has not reared its head this afternoon—the poll tax. By coincidence—this is not a partisan point—I was just rereading David Butler’s magnificent book on the history of local government finance and the poll tax in particular. The book, which was published in 1994, is called “Failure in British Government: the Politics of the Poll Tax”, and it is very interesting. Lady Thatcher, the then Prime Minister, sent a draft of the Green Paper back to the then Department of the Environment with a handwritten note in the margin that read, “I will not tolerate failure in this policy area.” The rest is history.

A serious proposal has been put forward. I do not want to use my time to criticise the hon. Gentleman’s proposals. The Lyons report was published recently and it, too, has gone round the circuit of local government finance. I have a few observations to make, however, because as Minister for Local Government, I debate such matters in detail, not least with the Local Government Association and its excellent leader, Lord Bruce-Lockhart, who has many interesting things to say about this policy area.

The hon. Gentleman began by saying, wisely, that we are all now in favour of localism. At last year’s LGA conference, Ministers and shadow Ministers were queuing up to compete over their localist credentials. The Leader of the Conservative party has promised an end to all ring-fenced grants—well, I shall believe that when I see it. My right hon. Friend the Secretary of State for Communities and Local Government outlined our proposals on how to move localism forward that were eventually in our White Paper.

The hon. Gentleman said that there was a danger of orthodoxy. I think that that is right in this regard. Yes, the drive for localism is intended to promote greater democracy and to re-engage the public along the lines that he suggested, and, as the Government and policy makers now see it, to improve local services—public services as well as local government services. However, the hon. Member for Taunton (Mr. Browne) made an important point—I was going to say that he spoke for the Liberal Democrats, but, in this debate, he speaks for Taunton and gives his own views rather than his party’s—when he talked about the paradox between devolution and equity. Those are not competing priorities; Governments and political parties of all persuasions must discuss where the balance should lie. Obviously, we believe that our policies in the White Paper square that circle satisfactorily and will allow the local establishment of targets and accountability under the proposed new performance regime. Nevertheless, in finance, that is a paradox that must be resolved.

The 1981 Green Paper, the Layfield committee report in the 1970s and, indeed, debates in the 1950s all came back to this issue: if one has a completely localised tax, one must have a mechanism to promote equity. I certainly I believe that it is desirable to have one and the hon. Member for Harwich said that he thought so, too. The danger of a completely localised sales tax is not the smuggling of butter across the Epsom downs—

No it was the Epsom downs. I believe that it was the predecessor of the hon. Member for Mole Valley (Sir Paul Beresford), Lord Baker, whose quote it was. He represented an area near the Epsom downs, not the south downs.

Order. I do not think that the Minister should dilate on the question of the south downs or the Epsom downs, or on the subject of the smuggling of butter—deeply interesting though his observations thus far have been.

I am very grateful to you, Mr. Bercow. I had forgotten that the Epsom downs were not in the south downs. The point is that if taxes were set locally, differential prices in different local authority areas would result in no sales tax in some areas or local councils setting one and then knocking on the Minister’s door asking for the redistribution of central Government grants to make good on their resulting poverty.

Going back a bit, I would like to give the example of one London borough that for two years, because of the way in which the equalisation worked and because of its efficiency, managed to have zero poll tax.

That is true, and of course one of the consequences was a desire of people to move into that borough, with the consequential effect on house prices. Were such a principle to be applied to retail sales, I think that there would be a significant distortion. However, my point is that, rather like the debate on non-domestic rates—here again I criticise the Liberal Democrats’ policy—if we relocalised business rates, we would provide an incentive to areas with more significant business rates to cut them, because people will say, “Why should we pay rates in the better-off business areas?” I fear that the same would be true of sales tax.

I want to challenge another assumption in the remarks of the hon. Member for Harwich. He said that at the moment we have a perverse incentive. Under the council tax and revenue support grant regime, whatever its faults and the balance-of-funding arguments—we had the balance-of-funding review some three years ago—this Government and previous Governments have allocated funding not on the basis of the performance or needs of the local council, but on an assessment of the needs of the area. However efficient the council is—we can measure that by performance regimes, by satisfaction rates, to which he referred, or through the ballot box—central Government assess the needs of the area. Part of that assessment, as the hon. Member for Taunton indicated, is based on the property portfolio in the area. If there is a sales tax, it is difficult to see how one could have an equitable system that allows the 100 per cent. localisation that he is seeking. So there are two significant problems with that point.

The hon. Member for Harwich was good enough to mention the impact of the European Union. It is worth recalling that we have VAT because the then Prime Minister, Sir Edward Heath, took us into and kept us in the European Union. We moved from a purchase tax to what became known as VAT. It is worth recalling also that the VAT rate increased from 15 per cent. rate to 17.5 per cent. to pay for the poll tax. When I study these policy areas it amuses me greatly to see that described in the Budget at the time as a transitional increase in VAT. The previous Government and the present Government have not returned to 15 per cent., and I think that the public would be right to be wary of any transitional scheme that did not have a time limit.

I am surprised at the proposal that the hon. Gentleman makes, as he represents Harwich, which I would have thought has a lot of trade with the European Union. That policy would involve renegotiating the treaty of Rome.

I do not want to diverge too far from the subject of the debate, but it will be perfectly possible to have market access once we are free from the treaty of Rome. Many other countries have increased the amount of trade that they do with European Union member states, despite not having signed away their sovereignty.

Thank you, Mr. Bercow. I shall deal instead with the point about a local income tax, which was the second of the four options in the 1981 Green Paper. It was recommended as a possibility for part-funding of local government finance by the Layfield inquiry and was not dismissed by the Lyons inquiry. Lyons said that he thought that it would take many years to introduce and there was mention of the danger of a cumbersome bureaucracy.

I do not know whether the hon. Member for Taunton has criticised the tax credits system, but his party certainly has. I would like to see a local income tax system being introduced smoothly and efficiently, but there are some points of principle that one would need to address first. I have asked the hon. Member for Truro and St. Austell (Matthew Taylor), who spoke for the Liberal Democrats on economic policy for many years—I met him when he was at Oxford university and he advocated this policy—whether the local income tax would be based on where a person works or where a person lives. However, I have never had a satisfactory answer. A local income tax based on where one lived rather than on where one worked would cause huge bureaucratic difficulties and, I suggest, would have an impact on the market in many unforeseen ways, and the same would be true if the opposite arrangement applied.

The simplest way of putting it is that such a tax would have all the disadvantages of the poll tax and none of the advantages.

The question of accountability is at the heart of the issue, as the hon. Member for Harwich said. All of us are seeking to improve accountability— that was the fundamental motive behind the community charge or poll tax. The country has not yet fully answered that question. However, we believe that our proposals in the local government White Paper and the Local Government and Public Involvement in Health Bill change the performance regime and the accountability regime and that we will see an improvement in that respect. We believe that localism that gives more power, particularly over financial decisions, which the hon. Gentleman likes to see, will increase turnout and show that there are real policy choices between the political parties. It will force the political parties to clarify their policies at local level as well, which is desirable.

I am extremely grateful to the hon. Gentleman for raising the issue. I am extremely apologetic to my ever- vigilant officials. They drafted me expert advice and speeches, but because of the wide-ranging nature of the debate, I have not been able to go through all that. I am amazed that my hon. Friend the Member for Wigan (Mr. Turner) has not chosen to intervene. I know that he is not here for this debate, but he has strong views on this issue as well.

The hon. Member for Harwich should be congratulated on raising fundamental points, putting forward his ideas and moving forward the debate after Sir Michael Lyons’ inquiry. I regret the notion that comes from some local authorities, which say that they have no power. Council tax is set by local councils. Opposition Members cannot have their cake and eat it. They cannot say when they are in the House that the Government set the council tax, and then put out leaflets in late April or early May every year saying how good Conservative councils are for having low council tax. They cannot have it both ways, but I do believe that we need to give more power over financial decisions to local authorities and I welcome the contribution that the hon. Gentleman has made to the debate.