The subsidy control bill – announced in the Queen’s Speech and expected shortly – will be one of the first opportunities for the government to show a ‘Brexit dividend’ by designing a better system than EU state aid rules. It was an opportunity that UK negotiators fought hard for in Brexit talks last year, and the final deal allows the UK to design its own domestic system to regulate around £8bn of subsidies offered to businesses by governments and public bodies each year.
If the government designs the system well then it can play an important role directing funds towards effective subsidies that deliver on objectives like ‘levelling up’ and ‘net zero’ and prevent subsidies that could damage competition and growth. But getting this wrong would mean an ineffective system that does not protect against wasteful subsidies, imposes red tape and legal uncertainty on public bodies and businesses and might set up further clashes between Westminster and the devolved governments. The government can design a successful system, but since the end of last year, an interim arrangement has been in place. These are deeply flawed, and risk creating a worse system than the EU regime that the UK has left behind.
The UK can do better than EU state aid rules
The EU system sees the European Commission play a gatekeeper role: all subsidies are illegal unless and until the Commission approves them. This allows the Commission to retain control of subsidies in 27 different countries with different approaches to public spending. But the result is a system that is slow and inflexible. The UK system will not face these same constraints. And that means the government can design a more flexible system that imposes less bureaucracy on public bodies and businesses.
Importantly, however, flexibility and freedom cannot be the sole aim. The government’s own objectives for the system acknowledge that subsidies can be damaging. There is a particular risk of ‘subsidy races’ as different parts of the UK compete for activity. The system must be effective at preventing these measures that would be harmful for the UK as a whole, as well as encouraging subsidies that support government priorities.
But the current approach will not deliver the government’s objectives for the system
Since the UK left the EU, an ‘interim regime’ has required governments and public bodies to self-assess whether their subsidies comply with broad, hard-to-define principles. There is no regulator, so the only way to confirm that a subsidy is legal is via a court challenge (which may or may not emerge). The government has indicated that it intends to continue with this principles-based approach – with only a minor role for any regulator – in the new legislation.
A regime like this risks being the worst of both worlds. There is no guarantee that harmful subsidies will be prevented if the granting body is responsible for self-assessing whether a measure addresses a ‘public policy objective’ or whether the benefits outweigh the costs (two of the six broad principles). But a system that does not provide legal certainty will also deter some public bodies from offering worthwhile subsidies because it is hard to know how to demonstrate the principles are met and there is a risk of court challenge.
The new system needs clear rules and a strong regulator if it is to be a success
A new Institute for Government report, Taking Back Control of Subsidies, argues that the system needs clear rules and a strong regulator if it is to be a success. Guidance and regulation are needed to clarify what it means to comply with the broad principles and provide ‘safe harbours’ that guarantee legal certainty for smaller measures. A regulator can provide advice to public bodies as it designs subsidies and challenge subsidies which risk doing more harm than good. Between them, these two features will help to prevent harmful subsidies, promote subsidies that meet objectives like net zero and levelling up and provide vital legal certainty.
A further risk with any new system is high profile and messy legal disputes between the devolved administrations and the UK government, especially after the UK Internal Market Act controversially reserved the power to set the subsidy control rules to Westminster. A UK-wide system is in the interest of all the administrations, but it should be a joint venture. The Competition and Markets Authority should be the regulator due to its expertise and reputation for independence. But we also recommend that its governance should be reformed to make it a genuine four-nation body that can impartially regulate governments across the UK.
A more effective subsidy control system is within the government’s grasp, but unless it alters its approach then public bodies, businesses and taxpayers may be forced to work within an ineffective system. They could well end up wondering why leaving the orbit of EU state aid rules was such a priority in the first place.
Thomas Pope is the Institute for Government’s deputy chief economist