Why loans should not count

In other countries, student funding does not count as part of the national coffers. Has our Government got it wrong?

Later this month two academics from the London School of Economics will bend the ear of a House of Commons education select committee on a key but arcane accounting issue which, they believe, could unlock large sums of money - estimated at more than pounds 1bn - for higher education. Unless the issue is addressed, the Government's plans for fees are pointless, they argue, and will yield no new cash immediately for the United Kingdom's hard-pressed universities.

One of those academics, Dr Nicholas Barr, senior lecturer in economics, this week addressed a vice chancellors' conference sponsored by The Independent on the subject. On 29 September he will put forward his views in another forum organised by the Public Finance Foundation, the research arm of the Chartered Institute of Public Finance and Accountancy.

Both Dr Barr and Iain Crawford, visiting research associate at the LSE, are arguing that Treasury mandarins' insistence on treating spending on student loans in the same way as grants is unnecessary and obstructive. Loans expenditure has to be found entirely from taxation or government borrowing in any given year. But a substantial proportion of the money which is advanced to students in loans will return to the Exchequer eventually when those students have graduated and are able to repay the money they borrowed. Therefore why classify the cash as a 100 per cent outflow from public coffers when that isn't the case - certainly not in the long run?

Though arcane, the issue is critical. There is an immediate funding crisis in universities. There will be no additional spending on higher education. (The Budget said so.) One source of extra private money is parents, but parental contributions will not go up. (Education Secretary David Blunkett said so.) The other source of private money is loans. But, if loans count as public spending, that avenue, too, is closed. So universities won't get an extra penny. If the Government were prepared to be less rigid about its accounting rules, a tidy sum of money could be created where previously only minus figures existed.

Dr Barr says: "On the face of it this is an immensely boring technical issue. But until it's fixed there won't be an extra bean for higher education - not a penny for improved access, nothing to restore quality, no savings to help access earlier in the system. Goodbye to reform in fact."

In his report on higher education, Sir Ron Dearing did not use such colourful language as Dr Barr, but he also made the point strongly. When he and members of his committee visited Holland, they found the Dutch took a different view from British civil servants: they did not count student loans against the public sector borrowing requirement.

Dr Barr found a similar view in Australia from where he has just returned after advising the West review (the equivalent of a Dearing Mark II set up by the Australian government). He discovered that the Australians adjust the presentation of their public accounts to take into consideration the money they expect students to repay the exchequer. Dr Barr has the figures to prove it and waves them at his audiences. New Zealand is another country with a similar policy.

Why then do we persist with our accounting rules? Asked for an answer, the Department for Education and Employment referred The Independent to the Treasury. The Treasury batted your correspondent to the Office for National Statistics, a government department and independent agency responsible for collecting and publishing government statistics. The reason student loans are categorised in the way they are is that they constitute government lending, according to a spokesman. The Government carries the risk that lending will not be repaid. It assumes that loan repayments will not materialise until the money is actually coming through the door.

In his report, Sir Ron recommended that the Government look urgently at "alternative and internationally accepted approaches" to national accounting. Asked about this, the Department for Education and Employment said it was considering the various sections of the Dearing report with the Treasury and would be responding in due course. A spokesman for the ONS said he was unaware of any plans to change the classification system.

Dr Barr believes the Treasury could change its treatment of students today or tomorrow if it wanted to, because reform along Australian lines is compatible with IMF and Maastrict criteria. The Treasury view is that loans made by the Government to anybody - whether to private individuals such as students or to concerns such as the fishing industry - count as public spending at the moment the loan is made. That is why expenditure on loans is treated the same way as expenditure on grants. Their explanation is that, whether money is lent or given, it has still got to be raised through taxation.

Such rules have been long-standing practice. It is believed that Treasury mandarins would resist change, if only because they would not favour treating student loans, as opposed to any other kind of loan, as a special case. But, if Chancellor Gordon Brown were persuaded of the need for reform, all that would change. Whether he will is doubtful. "Gordon Brown, from what we have seen of him, is a very cautious man," says a former civil servant who worked at the Treasury. "I don't think he is going to adopt the Australian or Dutch position in a hurry."

If that is the case, Messrs Barr and Crawford propose another way to pump money into the universities fast. That has been covered in previous issues of Education+ and it involves selling off student debt annually to the private sector, for example to pension funds or insurance companies. They estimate that doing so could net pounds 1.2bn a year.

But here again they run into a similar problem. The Office for National Statistics would still count such lending as public spending on the grounds that insufficient risk is transferred to the private sector and because the collection of repayments would continue as a public-sector activity. (Repayments would be deducted at source by the tax or National Insurance authorities acting as agents for the Student Loans Company.) Therefore that scheme, too, would fail to bring any immediate private funding into higher education. As Ron Dearing said in another strongly worded section on the Alice in Wonderland scenario: "Such loans would stay on the Government's balance sheet, thus defeating the very purpose of the sales." He added: "To classify [such] a loan as public expenditure ... seems to be at variance with the substance of the matter."

For Messrs Barr and Crawford an important element in meeting the objections of ONS is for the body organising student loans - the Student Loans Company - to be privatised. The Company would be responsible for collecting repayments as it is at present. Loan repayments would be added on to National Insurance contributions and collected by the Contributions Agency. The Student Loans Company would contract with the Contributions Agency to receive the loan repayments. Student debt would be sold directly to the private sector, so the taxpayer would hardly be involved. That way the problem could be avoided without breaking the rules.

Both Messrs Barr and Crawford agree with Sir Ron that more money should be pumped into higher education to restore quality and improve access. However, Mr Crawford says: "If you're really serious about access, you need to divert substantial extra funds to keep people on at school or in further education until 18. The hard bit is getting kids from poor backgrounds to get A-levels; once they get that far, persuading them to take the next step is much easier."

But none of that can be done unless the Treasury and ONS are prepared to think again about how they treat these matters. And that won't happen unless Government ministers think it is worth doingn

What Ron Dearing said

"A fundamental problem with the Government providing loans to students is the way in which they are treated in the national accounts. Under the current arrangements for Government accounting - cash accounting - the full value of loans is scored in the same way as grants, when the loan is advanced. Repayments are subsequently counted as negative public expenditure. This means the options which change existing grants into loans do not produce any short-term savings in public expenditure apart from those caused by less than 100 per cent of eligible students taking up loans.

We recommend to the Government that it looks urgently at alternative and internationally accepted approaches to national accounting which do not treat the repayable part of loans in the same way as grants to students.

We recognise that this review will need to take place against the background of the wider economic context, but we see no merit in the present practice of treating loans in the same way as grants. It misleads rather than informs."n