Q131 Lord Best: Improving public understanding-and mine too, I think-does get pretty difficult. I guess that governments of all persuasions are going to want to try to find ways in the future of spending money that does not show up in the national debt. If the basis really comes down to where the risk lies, my question is about how you determine the risk transfer between the public body and a private company, or a special purpose vehicle. Let us try this from a kind of public perception and understanding of these things. At one level we now know from the collapse of the banks that the government has to pick up the bill at the end of the day; the risk, ultimately, with these organisations that are too large to fail, and so on, rests with government. We have not transferred risk even in the banking system out of the hands of government, at the end of the day. If things go bust, government picks up the bill. In the world of PFI, of course, the school, if it is half-built, if the PFI company goes out of business and this whole thing falls apart, the public sector has to pick up the bill. It falls back on the taxpayer-local or national taxpayer-because we need the public services. To say that the risk is transferred to a private sector body, at one level, must be a bit of an illusion, to use Professor Whittington's words. Is it that the medium-sized risks are transferred allowing a change of definition that governments will grasp if they can? The medium term risk-not that the contractor goes bust but simply that it costs a lot more than they expected and they have to take the hit; it is the small-scale things that go wrong which do fall to the private sector organisation, the contractor, to pick up the pieces because that is what the contract says, even though the big risks do, ultimately, still remain a public sector activity with the public sector. Have I mystified you even with the question?
Ms Matheson: You are right in the sense that, of course, ultimately, where is risk, and that is one of the issues about how do you define and decide the point at which risk becomes a liability and at what point should it be included in whatever accounting standard. That is one of the real measurement difficulties with any system that you have. I am not quite sure what the question is that that leads to.
Q132 Lord Best: Let me put the formal question here, about the transfer of risk between a public body and a private company. How do you set about determining the risk transfer between the two, the public body and the private company, or special purpose vehicle?
Ms Matheson: The short answer is we do not; that risk is the risk as it appears in the audited accounts. So, as statisticians, we do not do that.
Q133 Chairman: Perhaps we can address it to Professor Whittington.
Professor Whittington: I will try and answer that, if you like. Under the FRS 5 approach, which is the one that has historically been used in the UK and is widely used abroad as well-Australia and New Zealand and other places-you, first of all, as I said, would strip out the construction risk, to start with, because somebody bears that anyway, in creating an asset. The PFI contract is for the use of the asset for a service once the asset is constructed. You would also look at the end of the contract and look at who gets the asset at the end, because that is usually very informative with PFI contracts; they are often for less than the life of the useful asset, despite the discussion we had earlier. If it reverts to the government then, of course, the government is bearing the residual value risk that is stated at the end. You would then analyse in detail and make a judgment on the terms of the contract itself. Of course, we talk about PFI-one of the difficulties is there are so many different contracts with so many different terms; who covers what risk within a contract; do you give a fixed price, do you have a variable price; do you have toll roads, do you have shadow tolls-it goes on forever. You have to analyse the contract and make a judgment. That is where, I am afraid, FRS 5 really was let down or let itself down because these interpretations done by people who have incentives to keep things off balance sheet, inevitably, lead to things going off balance sheet. It is unfortunate that is the way it is. That is why the new IFRS approach is becoming predominant because that emphasises control rather than risk, although, in fact, as I hinted earlier, it is another way of expressing it, because the risk transfer was never solely what FRS 5 was about. What we were trying to do on the ASB in those distant days when we concocted FRS 5 was to deal with off balance sheet financing by private companies. That is often done by what are called "auto pilot vehicles" which run themselves, so there is not any control; they run themselves, so you cannot look at control and you have to say: "Well, whoever, at the end, gets the variable returns must surely be the person in control", because unless they are very stupid they will have put something in place, even if it is not visible, that makes sure they can avoid the worst happening if possible. So that is why FRS 5 was there. There was always an element in it of: "Well, who gets the benefit? Who controls or manages the thing?" The IFRS view of control is that it has two wings; one is power, which we normally think of as the power to direct in some way-the power to determine the public sector service: the quality, the price-but the other is that the power has to be directed for the benefit of the person exercising power. In the case of government, obviously, that means they have to be able to direct it towards their ends, and that, if you like, is a risk or rewards approach because you are saying: "Who gets the benefits; who bears the risk, in the end, of service?" So the two approaches are not so different, but the way IFRIC 12 has been drawn up, the rather stark way it is drawn up, puts people on notice that there is really, almost, a rebuttable presumption that things are on balance sheet, and I think that probably counteracts the temptations leading to poor judgment.
Q134 Lord Griffiths of Fforestfach: My Lord Chairman, I wonder if I can ask Mr Grice a question, because I have only been involved in one major PFI contract, which is the outsourcing of property services to the DHSS, then the Department of Employment, now the DWPP-a 20-year contract-when we, in winning the tender, took on tremendous risk, namely, that we had thousands of properties, some of which the Department said: "We will never want to get out of"; some of which they said: "We want to get out of now" and some of which they said: "We may want to get out of". For those properties we took the risk that if they got out we would be able to re-let them on terms which were reasonable, and we took on other risks. My understanding was that when this was set up the Treasury, in agreeing to a PFI project, said: "One of the key criteria for something to be a PFI project" (regardless of accounting, for a minute) "was that there has to be a material transfer of risk from the public body to the private body. Is my understanding correct?
Mr Grice: It is a little while ago since I was directly involved with PFI schemes, but the basic proposition was that the risks should be borne by the party best placed to bear the risk-that would be the way to get the maximum welfare for the country. That, I presume, is still the underlying presumption. We use the accountancy rules simply to give us a judgment based on the professional accountant's judgment, rather than our own, as to whether that risk transfer has taken place or not. That determines the position that we reach.
Q135 Lord Griffiths of Fforestfach: Can I ask you: is the professional accountant the best person to give you that judgment?
Mr Grice: The professional accountants, we will expect, will be the people who will go through and analyse where the risks were borne and how the mechanism had applied. I think we would not feel that we could add value, as statisticians certainly, in second-guessing in all 800 schemes, or whatever. There is one other point in this discussion, if I might, and that is, really, to put these numbers in context. The figures that we have are that there are approximately 800 or so PFI/PPP schemes in being, and the capital value is something of the order of £64 billion. Of those, under the rules which Professor Whittington has doubts about but which, nevertheless, are the ones we use for national accounting purposes and public finance purposes, approximately £25 billion or so are actually on balance sheet under those rules. As it happens, some of the larger schemes which would not be caught by those rules-London Underground schemes-are ones where we judge, in any case, that the PFI counterpart is part of the public sector because of the control. Again, that leaves us, when we take that into account, with something of the order of £5 or £7 billion of schemes at issue. Now, £5 or £7 billion is, obviously, a large amount of money, but that compares with the public sector net debt (and we published a new figure this morning), and that was £825 billion. So the amounts we are talking about here, in relation to the overall public finance, are not negligible, of course, but they are actually not that large in relation to the totals of the public finances that we are talking about.
Chairman: Material, but only just.
Q136 Lord Tugendhat: This is a very technical discussion and I must say I am having some difficulty in following a great deal of it. I would like to ask one of the simpler questions on this list, and that is how does the UK treatment of these liabilities compare with elsewhere in the world? I do not mean in Europe because that point has already arisen, but looking beyond Europe but within the OECD area.
Ms Matheson: They, too, follow the system of national accounts-the UN system of national accounts that the European system is based on. So although the UN system is voluntary, the expectation is that that is what countries will follow.
Q137 Lord MacGregor of Pulham Market: Can I just go back to Mr Grice's figures, in that supplementary point you made? You told us where £32 billion were, and the overall figure was £64 billion. The gap between the two, the other £32 billion, how is that accounted for?
Mr Grice: On my figures something in the region of £25 billion would be accounted for-that is actually on balance sheet of the total-and something of the order of £18 or £20 billion would be accounted for by the London Underground schemes, and it is the rest which is really at issue.
Lord MacGregor of Pulham Market: Thirty-six, but not £5-£7 billion.
Chairman: Twenty billion. If you could give us a little note on that, that would help.
Q138 Baroness Hamwee: I am very relieved by what Lord Tugendhat confessed, because I feel much the same! This, I think, is a political question rather than a statistical one. If liabilities appear on the national balance sheet as a matter of fact, depending on how each is treated but regardless of how much risk is transferred, is there a risk of missing important information?
Ms Matheson: Again, I think I have to go back and say it depends on the purpose and what is the information that you are trying to establish.
Q139 Baroness Hamwee: Let me put it a different way. Is there a difficulty in interpretation, then? I can absolutely follow what you are saying about it depends on the purpose, but are we in a situation where we are making life difficult for ourselves in producing information which does not facilitate analysis and interpretation?
Ms Matheson: Again, I will ask Joe to come in but I refer back; there are the national accounts and we discussed the national accounts framework and what we are obliged to do. There is additional information in order to be able to understand public debt, and I think this falls into: "What is the additional information that the public needs in order to have transparency about what is actually happening", which is an important principle. There are real difficulties in measuring, interpreting, understanding and classifying what the range of information should be, but that is why we have been looking to see what additional information ought to be made available and could, practically, be made available. We have talked just about the PFI schemes, and 800 schemes-a lot of them very, very complex-each of them having their own separate arrangements, so just understanding what is happening there is a mammoth undertaking. Going beyond that, the difficulties of interpreting do not disappear just because you have something on balance sheet or off balance sheet.
Professor Whittington: That is a very good question you put, really, because people do tend to take numbers in accounts rather literally and they are usually first estimates that lead to further analysis. Just think of all the credit crisis, bad debts and the way people split them up into tranches and say they have different qualities, when you add them all up they show a total of liabilities. That is superficial, in a sense, but it is a start. People crave simplicity; they have got to start with something they can get their minds round, but it is certainly true that you do need to dig deeper into accounts. The problem there is (I have no doubt the national statisticians find the same problem) that if you do lots of notes people say: "You know, this is far too complicated-look how fat the accounts are". Unfortunately, that is the truth; the truth is complicated. So they are doing their best, their honest best, to give you a start.
Baroness Hamwee: I was not suggesting otherwise!
Q140 Lord Eatwell: Listening to all this, I would like to come back to the issue which I raised at the beginning, which is in looking at the PFI, the whole programme, what we are trying to understand is if this whole programme has been a useful strategy for the public sector, and useful is essentially defined in value for money and, over a period of time, including the restrictions that may be placed on you by contracts, of doing a particular projects one way or doing them another way. What we would like the accountants to help us do (always understanding there are various qualitative issues along the way) is to provide us with a framework to help answer that question. It is: are these things, in the words of 1066 and All That, a Good Thing or a Bad Thing? That is what we are trying to get at. If one laid down a set of criteria which said: "We want projects to cost the least for a common service with common flexibility", or whatever, and said: "Okay, would you provide us with an accounting framework which would help us to look at projects and judge on that basis"-is that utopian?
Ms Matheson: I defer to the accountant.
Professor Whittington: What you are talking about is very much in even the other direction from me-not the national accounts-it is not even at the entity level; it is really at the project level where you can really evaluate PFI projects. There have been academic studies done of PFI projects, mostly critical, about the difficulty of getting information about them, and it really is at that level. After all, you have just had the local authorities giving evidence; I am sure there are a lot of people in local communities who are interested in, "Why did they build that school there? How much did it cost? Was it value for money?" and I think they do have difficulty in getting information about the projects. However, it is really at the micro level that you can tell whether it is value for money; whether it is on balance sheet or off balance sheet or what the total looks like, we are back to the question that we-