The Missing Piece: Fiscal Devolution and the Future of English Governance
Will 2026 be the year of the ‘devolution revolution’? Changes are underway that could mark a step change in the governance of England. A consistent framework for a tier of strategic authorities with enhanced powers to drive economic development and shape services will soon be established in primary legislation. The English Devolution and Community Empowerment Act will enshrine the right of Mayoral Strategic Authorities (MSAs) – the burgeoning institutions at the frontier of this wave of decentralisation – to request further levers. And many are on the precipice of enhanced funding flexibility. One important component, however, has so far been missing: fiscal devolution. For many years, it had been thought highly unlikely that the centre would move in this direction. But a surprise announcement from the Chancellor in her recent Mais lecture has now put tax decentralisation firmly on the cards, with plans to be drawn up ahead of the next Budget in Autumn 2026. This follows last year’s announcement of the first new tax power for the local state in decades – the Overnight Visitor Levy. This could be a gamechanger: without fiscal decentralisation, the evidence suggests English devolution would struggle to fulfil its promise.
As it stands, subnational government in the UK has very little fiscal autonomy. In 2023, central government in the UK raised 91.8% of overall revenues compared to an average of 53.2% across OECD countries. While there has been a degree of fiscal devolution to the governments in Scotland and Wales, England remains highly fiscally centralised and a notable outlier. With productivity flatlining, large regional disparities and a perennial struggle for growth, could overcentralisation be part of the problem? The comparative evidence would seem to suggest so, with studies finding a positive link between fiscal decentralisation and economic growth, productivity and human capital across the OECD. Zooming in, a recent article focused on Italy found that municipalities with higher fiscal autonomy have a higher per capita income. Several other single country studies have also shown fiscal decentralisation to have a positive impact on regional economic growth.
At the outset of English devolution, mayors were largely envisaged as delivery agents – with access to ring-fenced funding pots orientated around specific central government priorities. The role of MSAs has since developed to encompass a wider range of functions and with increasing access to more flexible funding. Yet the evidence indicates that productivity gains are more strongly related to fiscal decentralisation than spending on its own. Under a more fiscally decentralised system, when subnational governments take decisions that boost tax revenues they share directly in the benefits of those decisions, incentivising pro-growth policymaking. Additionally, a direct link between revenue and spending gives devolved institutions more skin in the game, requiring them to engage more directly with trade-offs, encouraging efficiency, and enhancing accountability to the local electorate.
Beyond the growth-focused arguments, fiscal devolution in England would help move the conversation forward on the role MSAs might play at a strategic level in relation to integration, prevention and public service reform. With less reliance on central government funding streams, the subnational level can move away from the silos passed down from Whitehall departments and embrace innovations such as place-based budgeting.
However, while there are many potential positive effects of fiscal decentralisation, the evidence is clear that these are not automatic – the right conditions need to be in place. The administrative and analytic capacity and general quality of subnational institutions is important, as is scale. Fragmentation, for example, acts as a barrier to productivity gains, with a need for coherence across functional economic areas. A more fiscally devolved model also inevitably raises questions about regional inequalities and redistribution.
Would fiscal devolution exacerbate regional disparities, with wealthier regions standing to benefit the most from greater fiscal autonomy and other areas left behind? This is an especially important consideration in the UK context, which combines centralisation with high levels of regional inequality. Yet the evidence indicates that fiscal decentralisation may help reduce disparities between regions by enabling less well-off regions to mobilise untapped economic potential through better tailoring policies to local needs. This does in part depend, though, on the ability of central government to underpin fiscal decentralisation with some form of interregional redistributive system.
This question of ‘equalisation’ is a crucial one, involving something of a trade-off. Depending on how the system is designed, some subnational authorities may gain little for growing their economic base if they then lose transferred funds or growth is redistributed, minimising their incentives to do so. On the other hand, grant reduction that outpaces growth potential can leave areas fiscally squeezed – especially those with weaker starting points. Some form of rebalancing is needed alongside fiscal devolution to reflect different levels of need and potential – but where to strike the balance is a critical judgement.
So, as officials begin work on plans for fiscal devolution, there are some key questions they need to engage with. First, what tax(es) should be devolved and how? The Chancellor has indicated the government will be looking at income tax. Of the big national taxes, there is a strong logic to focusing on income tax. There is direct link between the economic success of an area and the amount of income tax paid, and less in the way of administrative and mobility issues when compared to VAT and corporation tax. And it makes sense to determine who pays what based on where they live, as residents form the local electorate. This could take different forms though. One is the tax assignment or retained share model (a form of which is used in Germany) where a portion of a national tax like income tax is assigned to the subnational level based on the amount raised in that area, but where authorities do not have rate varying powers. A different model is a local income tax, usually levied at a flat rate – this approach is used, for example, in Denmark. While both create incentives to grow the local tax base, the latter allows subnational authorities to use tax rates more directly as a lever. They may, for example, have higher local tax but better services, making their area a more desirable place to live, or choose to attract people with lower rates.
Reeves has indicated the government is considering something closer to the assignment model and has said that the proposal will be fiscally neutral. This approach, however, is on the less autonomous end of the fiscal devolution spectrum. Indeed, without some ability to vary the rate or increase borrowing, MSAs may find themselves exposed to risks they are largely unable to mitigate.
In many ways just as important as the questions about specific options are those related to the institutional conditions that will be needed to support them. Some have raised doubts as to whether all the planned mayoral strategic geographies are of sufficient scale to make full use of fiscal powers connected to strategic economic development. Relatedly, what capacities will MSAs need to make the most of new flexibilities and sources of funding? Analytical capabilities, including economic forecasting and investment planning will no doubt be important, and for some areas this capacity will need building. There is a case for building a new architecture for regional tax collection, which would start with the Overnight Visitor Levy before expanding to administer a local income tax.
Fiscal devolution would also need to come with reform to accountability arrangements. Given that funding currently flows largely from central government, most accountability around Integrated Settlements is currently upward facing – from MSAs to Whitehall departments. As more revenue is raised and retained locally, accountability should shift towards the local electorate and enhanced local accountability and scrutiny bodies, with Chief Executives of Strategic Authorities as Accounting Officers.
Finally, there is the complex question, already mentioned, of how to build a more fiscally devolved system that preserves incentives while ensuring fairness. To start, fiscal devolution could be tied in with the Integrated Settlements – with a reduction to the settlement made that is equal to the revenue raising capacity of the area. Growth against a baseline could be retained with central government funding then periodically reset. A longer reset period would mean stronger growth incentives, while a shorter period would lead to less divergence. Longer-term, it would be logical to move towards a block grant connected both to the revenue-raising potential of a place and a more transparent assessment of the level of funding needed to fulfil its broader functions. Many other multi-level states have formal intergovernmental structures for negotiating and co-producing this kind of system.
Reeves has set the fiscal devolution train in motion. Given the Treasury’s historic reluctance to relinquish control, this is a significant moment. But the success or failure of any fiscal decentralisation will depend, inevitably, on the detail. And on this, there is plenty of work still to be done.
About the author
Alex Walker is Senior Researcher at Re:State and works on the ‘Re:Imagining the Local State’ programme. He previously worked in research and communications roles at several academic think tanks and research institutes, most recently the Bennett School of Public Policy at the University of Cambridge, and UK in a Changing Europe at King’s College London. Alex’s recent research has focused primarily on devolution and intergovernmental relations. His broader research interests include constitution and government reform, community empowerment and public participation.
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