Wednesday’s announcement on government spending in 2015/16 saw George Osborne make good on an old promise to cap an area of the budget he claims has got “out of control”.

We’ve already seen the coalition introduce one benefits cap – a limit of £26,000 on the amount of benefits a family can claim per year.

The chancellor made noises in this year’s budget about a new spending cap, but few details were forthcoming. Now he has confirmed that a second welfare cap will kick in from 2015.

What did we learn from the chancellor?

We already knew that Mr Osborne was planning to put some kind of limit on Annual Managed Expenditure (AME). That’s the bit of government spending which is partly outside the government’s control.

It includes welfare spending, public sector pensions, debt repayments and bits and pieces like payments to EU institutions.

All these things are demand-driven and therefore slightly volatile: if the economy suddenly takes a dive and unemployment soars, there will suddenly be more demand for out-of-work benefits. Or changes in the markets could mean the cost of servicing debt goes up.

The Treasury makes forecasts about how much it will need to spend on these things but there is always an element of uncertainty.

Many people were expecting a cap on AME in general but what we got today was a Welfare Cap: only spending on benefits will be subject to the new limit.

What benefits are affected?

Housing benefit, tax credits and various disability benefits will come under the new cap. So will pensioner benefits like winter fuel payments and pension credit payments.

But Jobseeker’s Allowance has been left out along with other so-called “automatic stabilisers” – payments that automatically increase to help boost income when the economy is in a downturn, smoothing out the effects of the economic cycle.

And the state pension itself will not be affected. That is a hugely important omission. It means about £80bn of the £180bn welfare bill will not be controlled by the spending cap.

Mr Osborne said cutting the state pension “penalises those who’ve worked hard all their lives” and made it clear that this government will not consider such a move.

What happens if the cap is breached?

We don’t really know, but it doesn’t look like the world will come to an end. Today’s spending round documents say that “there will be a margin above the cap to ensure policy action is not triggered by small fluctuations in the forecast”. So some wiggle room has been built in already.

If the cap is breached, the independent Office for Budget Responsibility “will issue a public warning”. What then? We don’t know.

It seems unlikely that the government would simply refuse to pay out benefits to which people are entitled. If that is what is being envisaged, we haven’t had any details of how that would work in practice.

What do critics say?

Matthew Oakley from the think-tank Policy Exchange is disappointed that the state pension has been left out of the cap.

He says pension costs are set to rise to 8.3 per cent of GDP by 2061 – a rise of £40bn in today’s prices – while working age benefits will remain at 3.1 per cent of GDP over the next 45 years.

Mr Oakley told us: “We have to start having an honest debate with the public about pensions. We have seen movement in the past on the pension age. There is no reason why we can’t increase that again, or more quickly.

“It’s not a case of saying that we’re going to cut pensions or we’re not going to pay people’s pensions. It could be a case of asking people to work longer rather than burdening the next generation with huge pension costs or with far worse public services.”

Ian Mulheirn from the Social Market Foundation said the cap was unnecessary, as the government has already demonstrated that it is able to cut benefit spending without introducing an official limit. The annual spend on working age welfare is down by around £22bn in 2014-15.

He told us: “You don’t need to cap AME. Spending is already controlled and the government controls it. It is an entirely rhetorical way of showing intent. It’s a political device, really.”

Mr Mulheirn also questions the wisdom of treating Jobseeker’s Allowance as an “automatic stabiliser” but not putting housing benefit and tax credits in that category.

He says increases in housing benefit and tax credits track unemployment. If they go up it’s because of problems in the economic cycle, not a “structural” problem, as the Treasury seems to think.

Labour have also been looking at a welfare cap of their own. The details may not match this policy, but there appears to be little difference between the two parties on the fundamentals.

By Patrick Worrall

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