PFI and the Tory Psyche
So much of the debate leading up to the referendum has revolved around the economy and economic matters in general. But there has been a systemic failure on the part of both sides in the debate to fully examine the financial position of the UK. I find this mystifying although it might be argued that the complexity of such a matter would make it impossible to make a point which the public would understand. I do not believe that is so. In fact, quite the opposite. Expenditure in general terms is easy to understand. The reasons for certain types of expenditure and, more importantly, the methodology employed are slightly more complex and difficult to grasp.
Conservative governments have, for over a century, been obsessed with reducing spending. This mindset has some merit when applied to current account expenditure but most Conservative administrations have treated capital expenditure in the same way, preferring to concentrate instead on tax cuts. Over the last hundred years, the involvement of central government in the provision of services and general infrastructure has steadily increased and the need for capital expenditure has increased in parallel, creating a bigger problem as time goes on. Labour’s attempts to address infrastructure deficits have come under sustained and largely successful attack by the Conservative party in opposition – how many times have we heard the phrase “tax and spend”?- and this has created an atmosphere which makes raising funding for infrastructure investment through the tax system not just politically difficult but political suicide.
No matter how fixed the idea of starving the country of infrastructure investment is in the Conservative psyche, eventually money has to be spent – new hospitals, schools, roads and railways have to be built.
And so, in 1992 the government came up with a new wheeze. At the time, the neoliberal philosophy had gained so much traction with the political classes that the idea of Public/Private Partnership (PPP) began to develop substance, and in its wake, a radical new proposal took shape. Named the Private Finance Initiative, it was slow to take off – partly because the very government that hatched the idea had grave misgivings about it. By the time Labour were elected in 1997, PFI contracts were worth, in total, less than £4bn.
PFI deals work in the following way: the government (via the relevant authority or agency) decides that – say – a new hospital is required. Bids are invited from relevant contractors or – more likely –consortia. So far, so simple. Then things become more complicated. The idea is to eliminate capital expenditure so the contractor is expected to fund the project, the completed building is to be leased back to the primary user and, in order to improve the return to the investor, various additional sweeteners are added. In many cases the land on which the building is built is given to the contractor and remains in the contractor’s ownership. The term of the lease is fixed and inflation-proofed. Maintenance contracts which were supposed to be built into the deal are routinely made the subject of additional costs. In fact, many PFI contracts are so complex that it takes an expert in contract law to understand them fully.
Two reviews of PFI contracts were undertaken in 1996 and 1998. Neither fully addressed the wisdom of the process in general but concentrated on examining the need to create a public sector structure for the future procurement of PFI contracts. The first full parliamentary review took place in 2000, at which time some £12bn worth of contracts were already in place. The committee’s report refers, in several sections to “value for money”. It is clear that there is a problem here. “Value for money” seems to mean different things to different people. Worse, in sections 24 and 25 of the report there is evidence of a stunning naivety on the part of the committee whose view neatly sums up as “we get value for money because the private sector is always better at these things than the public sector and they are telling us that we are getting value for money”.
Section 36 of the report also highlights the difficulty of using true comparators to assess this “value for money”. The contract details are “commercial in confidence”. We are not allowed to know the terms of these contracts and therefore cannot assess their value.
The CBI pointed out in section 29 of the report, that, should a contractor fail, the government gets the assets by default. No they don’t. If the contractor fails, the assets go to the creditors who, for the most part, are not bound by the terms of the deal. They could, conceivably, turf the occupants out of the building and sell it on or redevelop it for purposes entirely different from the original intention.
The fragility of the entire PFI process from the public sector point of view is thrown into sharp relief, distressingly so, by the conclusions of a House of Lords’ report of 2010 which starkly concluded that “it was not necessarily the case that value for money should be taken into account when considering a Private Finance Initiative contract…”
Currently, the sum total of PFI contracts in place is £69bn and a new round of contracts, mostly in the health sector but increasingly in education, is in the pipeline. Also major transport contracts such as HS2 and Crossrail 2 are in the offing.
So what is the risk?
Well, these contracts, on the face of it, have a lifetime of between 15 and 40 years at the end of which the government is not obliged to enter a new contract. Except that, in most cases it would be impossible not to. In the case of the NHS, land which once belonged to the NHS has been given to the PFI contractor who then builds the hospital and leases it back to the NHS trust involved. In the case of Norwich General Hospital, their current contract is for forty years but barely ten years into the contract, changing needs indicate that the buildings will be unsuitable by about twenty-five years into the contract, leaving the hospital struggling along with poor facilities or requesting a new building. Disputes over what constitutes routine maintenance and what are additions to the original fabric are adding to the running costs which, of course, include the lease. A new hospital will probably be required long before the current building reaches the end of its design life, which could leave the trust in the surreal position of paying for a lease on the new building while continuing to rent a building which no longer exists. Even if the trust reaches the end of its lease and decides that it is better to build a new hospital from its own capital budget – unlikely in any event – it would have to find a new site – around 70 acres, and in a convenient position for suppliers and patients.
The health unions have identified a hole in NHS funding which they estimate to be currently £30bn. I have not had the opportunity to verify this figure but it has to be remembered that each new hospital built with PFI funding adds significantly to NHS running costs without adding a single new bed, doctor or nurse. In effect, the NHS funding requirement, if the figures quoted are correct, is £30bn higher than it should be. This figure is set to double by 2020. The profits accrued by the PFI contractors are in the region of 20-25% annual return on capital and, to add insult to injury, many of these contractors have bundled up the finance, restructured it and moved it offshore. They don’t even pay tax on their profits.
The inevitable conclusion here is that the NHS has to be privatised. The additional burden of maintaining PFI contracts is eating up public sector funding and already in England three trusts are in imminent danger of collapse. There is no alternative. One trust in Scotland – Lothian – has followed this route. It is notable that, on the back of that experience, Alex Salmond decided that the rebuilding of the Southern General Hospital should be paid for from public funds thus reducing their running costs and giving greater flexibility in planning for future requirements.
I have concentrated here on the effect of PFI on the NHS. There are some stunning examples of the waste and inflexibility of PFI deals on other infrastructure investments, but to catalogue them all would require vastly more chapters in this saga. Two things should be noted, however. One is that around eighty per cent of all PFI contracts (by value) are in London and the South East and that ninety-five per cent are in England. The other point is that the cost of maintaining them is increasing at the rate of about ten per cent per annum. At that rate, paying for PFI funding deals will cost about 50% of all annual revenue by 2030. The current increase also means that there is a permanent deficit in public spending. Austerity cuts will continue unabated until there is nothing left to cut. This is one of the reasons why Westminster was so desperate to keep Scotland in the Union and, incidentally is the primary reason why Scotland will not get the full revenue raising powers it needs. Scotland produces a revenue surplus which has been pointed out many times during the referendum campaign. Without access to this surplus the UK government has to make substantially greater austerity cuts than it is currently making. The likelihood is that the crisis in Westminster’s spending would become catastrophic by 2020 without Scotland’s contribution.
There are solutions to Westminster’s problem – I’ll save them for another time but as they involve making a significant U-turn from the current neoliberal ideology, it’s for the readers of this article to decide for themselves how likely any of these solutions will be adopted.