The recession is like an octopus with tentacles that reach everywhere. They are now creeping towards schools, hospitals and the welfare system. The question is: will the downturn strangle the public services?

There is a paradox here. As the country goes deeper into the red, there is a growing need to save money through reform - and yet the changes being proposed by both the main parties will become more difficult to implement as a result of the credit crunch. Cash-strapped voters, who can no longer afford private education or healthcare, will rely more on the public sector. But both Labour and the Conservatives are looking to private and voluntary organisations to improve performance - at the very moment when companies are struggling to raise money from the banks and charities are seeing donations fall.

Welfare is a good example. The Government plans to revolutionise the benefits system by paying companies to find jobs for the long-term unemployed. The proposal is supported by the Conservatives, who have recently poached the man who devised it, David Freud. But the implementation of the policy is already in trouble. As unemployment tops two million, it is getting harder to persuade companies to sign up to deliver a jobs programme for which they will be paid by results.

The list of businesses that will run the scheme was meant to have been announced two weeks ago, but the bidding process has been delayed. Some contractors have dropped out, or reduced the scope of their bid, and others are reconsidering their terms. The Department for Work and Pensions has written to all the companies making clear that there are now likely to be three times as many people as originally envisaged on the programme and asking them to resubmit their bids by next week.

With more people vying for fewer jobs, it is inevitable that the companies will charge more. Richard Johnson, managing director of welfare to work at Serco, one of the preferred bidders, says his company will “actually help more people into work but each one will cost more”. He also says it will be necessary to “maintain a dialogue throughout the programme because the context is going to keep changing” - in other words the companies might come back and ask for yet more money. Clearly, helping people back into work is more important than ever in a recession, but the Government's mechanism will also more difficult to implement.

It's the same story across the public services. Yesterday, Gordon Brown's former housing adviser, Kate Barker, asked the Prime Minister to spend £6 billion of public money on social homes, to make up the shortfall left by private construction companies that are suffering from the collapse of the housing market. The Government has already had to bail out the Olympics to the tune of £500 million. Nearly £10 billion worth of projects, funded through the Private Finance Initiative - including improvements to schools, hospitals and motorways - are being held up by the credit crunch.

Meanwhile, the Government is finding it harder to secure wealthy individuals as sponsors for city academies and is turning increasingly to universities and private schools. These organisations are well equipped to run the academies, but they are more dependent on Whitehall for the construction costs - and the schools building programme is already facing serious difficulties.

Although the plan was to build 200 schools by the end of last year, only around 20 were finished and the government body responsible for the programme, Partnership for Schools, is so strapped for cash that it has asked the European Investment Bank for a loan. There are similar problems with the scheme for improving GPs' surgeries, which is also dependent on private contractors. It is all very well calling for a Keynesian programme of public works to kickstart the economy, but J.M.Keynes did not have to deal with the PFI.

This is not just a problem for the Government; it is if anything more of a concern for the Opposition. David Cameron's main pitch at the next election will be that Labour has failed in 13 years to improve the public services - despite spending much more - and that only his party will introduce genuine reform. But the Tories are relying on the private and voluntary sector to make these changes. In education, for example, they are planning to introduce the so-called Swedish model of free schools, run by companies and charities independently of the Government. In the good times, such businesses would thrive, but in the downturn they may struggle to raise the necessary finance. Yesterday, I spoke to Peter Fyles, chief executive of Internationella Engelska Skolan, one of the Swedish companies that has been talking to the Tories. Although he insisted that his business was sound he said: “A new free school company starting up now would be in a much more difficult position because the banks are so reluctant to lend money.” This is not a good time to create a market, however strong it might turn out to be in the end.

It is ironic that just as the Government is nationalising the banks, so politicians of all parties are looking to the private sector to run the public services. But the private sector doesn't have the money. In the short term, the State may have to do more to help the flow of credit to achieve their long-term aim to create more choice. Already some on the Left are using the recession as an excuse to call for an end to market reforms.

A country with debts heading for £2 trillion cannot avoid doing something pretty drastic to improve efficiencies in the public services. This is as much about politics as policy. The next election will be won by the party that shows it has a plan for the social reconstruction of the country as well as a strategy for fighting the economic war.

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