Over the past few decades, public investment in the United Kingdom has been low relative to both the immediate post-war period and to other OECD countries: since 1987, the public investment to GDP ratio has averaged around 2.5% compared with a UK average of around 4.5% between 1949 and 1980, and an OECD average since 2000 of 3.7%. Many authors have suggested that the lack of public investment in the United Kingdom is, at least, partly responsible for low UK productivity growth over this period, and that a likely contributor to low public investment in the United Kingdom has been the fiscal rules.
When it was elected in 2024, the Labour government made increasing economic growth in the United Kingdom its number one mission, and increasing public investment was seen as a key part of that mission. But the degree to which the Chancellor was able to increase public investment was limited by her ‘self-imposed’ fiscal rules. These fiscal rules, and the resulting decisions the Chancellor needs to make in order to adhere to them, have become the subject of much discussion, and this discussion has led to an increase in research in this area. This Special Issue of the National Institute Economic Review brings together some recent research on fiscal frameworks, including that faced by Scotland within the overall UK context, and includes contributions from academic and policy-oriented researchers and leading experts on this issue.
We can think of the fiscal framework as being the set of rules and institutional arrangements governing how public finances are managed over time. The framework would typically include a set of ‘fiscal rules’ targeting or limiting budget deficits, the public debt, and/or how fast government spending should grow. It would also include a mechanism for monitoring and enforcing these rules, often involving an independent fiscal council. Such frameworks are put in place to enable governments to balance their current priorities against the need to ensure that the public finances remain sustainable in the long run.
Having a sound fiscal framework is important for ensuring economic stability. Without a robust fiscal framework, governments risk falling into cycles of excessive borrowing, unsustainable debt, and fiscal crises, which can undermine investor confidence and economic growth. A well-designed fiscal framework also enhances the government’s accountability by making fiscal policy more transparent and subject to scrutiny. And this can, in turn, ensure that the financial markets trust the government to manage its finances well, lowering (or even eliminating) any risk premium they might otherwise charge on government borrowing. In short, fiscal frameworks are essential tools for ensuring that fiscal policy supports both macroeconomic stability and long-term prosperity.
But fiscal rules have tended to act against public investment. In particular, when governments have needed to rein in spending to hit a target for the budget deficit or government debt, they have found it easier to postpone or cut investment projects rather than to cut current spending: voters are less likely to be upset by new motorway construction being put on hold than by cuts to spending on the NHS or schools. As a result, fiscal tightening has always resulted in falls in public investment.
This leads to the question of how to design a fiscal framework that leads to enough public investment while also ensuring the long-run sustainability of the public finances. In their contribution to this Special Issue, Ben Caswell, Stephen Millard, and Adrian Pabst (National Institute of Economic and Social Research) attempt to answer this question within the UK context. They first examine the current fiscal rules in the United Kingdom before going on to examine how the UK fiscal framework might be reformed. They propose three major reforms: committing to only one fiscal event a year, with a ‘state of the economy’ address providing an update of how policy is performing against its objectives; a target for the primary budget surplus that would ensure ‘public-sector net worth’ was rising over time (i.e., debt was falling), together with a supplementary investment rule specifying a minimum ratio of public investment to GDP, both achieved via a fixed path for government consumption spending; and a reemphasis of the analysis in the Office for Budget Responsibility’s (OBR) ‘Fiscal Risks and Sustainability’ report, including scenarios, when thinking about the sustainability of public finances.
In his contribution to this Special Issue, Iain Begg (London School of Economics) also suggests how the UK fiscal framework might be reformed in the light of fiscal frameworks in other countries, notably those in which debt and deficit ratios have remained well below those in the United Kingdom. He examines two core areas for fiscal frameworks—rules and scrutiny—as well as wider governance considerations. He concludes that change needs to go well beyond the fiscal rules and offers a ‘menu’ of potential changes to the fiscal framework for the UK government to consider.
While attention has typically focused on national-level fiscal frameworks, the design of subnational fiscal frameworks can play an equally significant role in determining how public investment decisions and fiscal sustainability operate at the subnational level. This is particularly important in the UK context of the devolved nations. While national fiscal rules are about balancing government policy goals against the need to maintain sustainable finances, rules across devolved nations are about balancing the objectives of central and devolved governments.
In their contribution to this Special Issue, Graeme Roy (University of Glasgow) and David Ulph (University of St Andrews) use the example of Scotland to illustrate how devolved fiscal frameworks impact upon fiscal sustainability. They argue that a key feature of Scotland’s fiscal framework is the very limited scope for borrowing, which means that conventional measures of sustainability, such as the debt to GDP ratio, are not applicable and results in an immediacy to having to deal with emerging fiscal sustainability challenges as part of the annual budget process that is not present if a government can let the debt to GDP ratio rise over a period of time. An additional implication is that the Scottish Government’s fiscal sustainability depends on both its policies and those of the UK Government.
Indeed, in his contribution to this Special Issue, Francis Breedon (Queen Mary, University of London) highlights the deep interdependency between Scottish government finances and the wider UK fiscal system that comes through the Barnett Formula. He suggests that this has meant that Scottish government finances are now heavily influenced by both inflation and population growth in ways that were never intended to become a long-run feature of the funding framework. He concludes by suggesting that it is likely that funding per head in Scotland will go through a period of considerable reduction, adding significantly to existing fiscal pressure on the Scottish government.
Of course, regardless of the fiscal framework in place, the government will need to convince its lenders—that is, the bond markets—that the public finances are on a sustainable track. In their contribution to this Special Issue, Richard Davies and Finn McEvoy (London School of Economics) suggest that this constraint has strengthened in the past 5 years, with the bond markets now shaping G7 policymaking even outside periods of acute crisis. They show that for the United Kingdom and the United States, bond yields are higher than would be expected given a simple benchmark model, while also becoming highly and unusually volatile. They find that demographics, including pension reform, news coverage around independent fiscal institutions (i.e., the OBR in the United Kingdom), the increased role of hedge funds, and stablecoin activity help explain the recent behaviour of bond yields. But they also suggest that there is a need for further work to explain the remaining movements in bond yields.
Finally, in their contribution to this Special Issue, Adele Bergin (Economic and Social Research Institute), Eddie Casey and Niall Conroy (Irish Fiscal Advisory Council), and Michael McMahon (University of Oxford) reflect on the Irish experience of public investment and fiscal policy management over the last 25 years to draw key policy lessons. Their analysis suggests five core takeaways: the need for sustained public investment; the importance of ensuring that public investment goes into productive capital; the need for countercyclical public investment; the need to crowd in private investment; and the longer-term challenges for public investment. While drawn from the Irish case, the authors suggest that these lessons are broadly applicable since many economies are currently facing the same pressures of demographic change, climate transition imperatives, constrained fiscal environments, and institutional capacity gaps.
