Court ruling 'could destroy contracting-out policy': Clarke says High Court judgment on former public servants' pay and conditions could wipe out cost savings hoped for under hiving-off plans

KENNETH CLARKE, the Home Secretary, has warned the Cabinet that a High Court judgment threatens to destroy the Government's policy of hiving off Whitehall and town hall work to the private sector.

In a letter, a copy of which was leaked to the Independent yesterday, Mr Clarke said of a ruling given by Justice Sir Michael Ogden on 24 March: 'The consequences are very damaging.' The ruling appears so far- reaching that large numbers of former public servants could sue the Government for damages - because they suffered changes in the pay, terms and conditions of their employment in defiance of EC law. It could also halt all further Whitehall 'market testing' and local compulsory competitive tendering. The first round of market testing has put out to tender contracts worth almost pounds 1.5bn, covering 45,000 civil service jobs in areas like information technology, legal and estate management services. In local government, the main areas affected include cleaning, catering and construction.

But Mr Clarke told William Waldegrave, the Cabinet minister responsible for Whitehall hive-offs, at the end of March that Sir Michael had applied the terms of an EC employment protection regulation - the Acquired Rights Directive - to public sector workers whose employment conditions had been unilaterally changed by the process.

In the letter, he said the case had been prompted by a Home Office decision to privatise prison education in 68 establishments. When contracts were awarded in February, the National Association of Teachers in Further and Higher Education (NATFHE) had cited the EC directive in support of a threat that all the establishments should continue 'to employ all existing education staff working at the prison establishments, on their present terms and conditions'. That was not the cost-cutting basis on which bids had been drawn up.

The Home Office received legal advice that the EC directive did not apply, but on 18 March, NATFHE, acting on behalf of the education officer and a lecturer working at Thorn Cross Young Offender Institution, near Manchester, sought a High Court ruling. That was promptly allowed under the terms of Section 14a of the Rules of the Supreme Court; a hearing took place on 23 March; and Sir Michael gave his judgment the next day, which concluded that activities at Thorn Cross had remained unchanged, and so the terms and conditions of employment had to be maintained under the EC directive.

The Home Secretary said: 'The consequences are very damaging because we stand to lose almost all the efficiency and cost savings achieved, if all the existing staff have to be taken on by the new contractors on their present terms and conditions.'

Legal sources said yesterday the consequences were too far-reaching for the Government to ignore - they had to encourage an appeal by the Thorn Cross contractor. But a senior TUC source said if the judgment went against the Government on appeal, unions representing former public sector workers would instigate test cases. Many had had their terms and conditions of employment changed overnight by contractors. 'The Government potentially faces massive damages claims,' the source said.