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Funding gap: adaptive financial planning will be key

The growing funding gap in local government will have a varied impact on different authority types. How can local authority leaders rise to the challenge? Simon Christian and Rob Turner suggest adaptive financial planning may offer a path to financial sustainability.

Not four months since local authorities set their budget, the emerging cost of living crisis and pressure of rising inflation is laying most council budgets to waste.

Using our Financial Foresight model*, which analyses councils’ long-term baseline financial forecast, we now anticipate the in-year gap between local authority income and expenditure to increase from £1.7 billion in 2022/23 to £4.8 billion in 2026/27. An increase from our pre-inflation forecast of more than £1.3 billion.

The Financial Foresight tool – developed in collaboration with the Chartered Institute of Public Finance and Accountancy (CIPFA) – projects costs and income forward to provide a baseline financial forecast for every council in England. It also benchmarks spend between authorities, and applies socio-economic and service outcomes to understand the nature and effectiveness of spend.

Ultimately this helps us to support councils to get the right mix of financial levers they need to arrive at a sustainable long-term financial strategy. We have entered a volatile and unpredictable period. Understanding the various scenarios – including their financial implications and the resources available to deliver them – will be critical over the short to medium term.

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The growing funding gap across the local government sector will have a varying impact on different authority types. Only 7% of the forecast 2026/27 funding gap represented district councils, primarily driven by the fact they don't deliver social care services. County councils, however, are forecast a rise in funding gap from £450 million to £1.3 billion between 2022/23 and 2026/27 in a ‘do nothing’ scenario (ie, there are no savings delivered to reduce the funding gap).

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Local government chief financial officers have a statutory duty to ensure their council can set and maintain a balanced budget. However, while some councils may be able to draw on reserves to help manage their funding position, this is not a sustainable solution – nor an option for most.

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The total funding gap by authority type hides the significant variation in position between authorities. County councils have the most significant projected average gap per authority at £35.9 million. Unitary authorities and metropolitan districts have a much greater range in funding gaps, from between £4 million and £80 million, with a number of outliers with significant financial challenges to manage.

This stark financial context has significant implications for councils as they start to move away from the pandemic. In the absence of additional sources of funding becoming available, councils will need to take drastic action over the short- to medium-term to ensure their finances stay in balance. But what does that mean, both for councils and the communities they serve?

How local government can rise to the task

With most councils facing financial resilience challenges, public sector leaders need to take action. Adaptive financial planning can help build long-term financial sustainability through the following eight-step plan.

1  Determine and articulate local financial priorities

2  Address exposure to the financial risk of borrowing

3  Consider existing business cases in the context of new challenges

4  Reinforce contract management and procurement

5  Strengthen governance of investments and group companies

6  Stress test financial resilience against higher risk scenarios

7  Check defences against cyber attack and business continuity

8  Build up reserves and contingencies

*The Financial Foresight model reflects actual data returns from local authorities.  

For 22/23 and beyond, key assumptions include:  

  • Ongoing impacts to council tax and business rates income during a period of economic recovery from COVID-19. 
  • Most but not all authorities maximise their tax-raising abilities in terms of annual council tax uplift and social care precept 
  • Service expenditure is driven by demographic changes and cost inflation for demand led services (i.e. social care) and by cost inflation for non-demand led services 
  • Grant funding includes the impact of the Spending Review 2021 and then remains flat pending outcome of future Spending Reviews