Biggest economic chill since days of the ‘Great Frost’
Collapse in output due to virus pandemic and ballooning Government spending will lead to ‘long-term scarring’, warns Sunak
BRITAIN’S economy will shrink by its largest amount for 300 years because of the i mpact of the coronavirus pandemic, the Treasury watchdog warned yesterday.
The Office for Budget Responsibility said 2020 would see an 11.3 per cent decrease in output, the worst collapse since the Great Frost of 1709. It will be the biggest slump for any advanced economy in the world this year, barring tourism-dependent Spain, where the International Monetary Fund has pencilled in a steeper 12.8 per cent fall.
Mr Sunak said: “Even with growth returning, our economic output is not expected to return to pre-crisis levels until the fourth quarter of 2022.
“And the economic damage is likely to be l asting. Long- term scarring means, in 2025, the economy will be around 3 per cent smaller than expected in the March Budget.”
The OBR’S report prepared for the Chancellor is a sobering read: the deficit of £394 billion this year – or 19 per cent of Gross Domestic Product – means that government spending as a share of GDP has gone up to 56 per cent, the highest on record in peacetime and the biggest since the 62 per cent seen in 1944-45 when the country had to fund Operation Overlord and the invasion of Nazi-occupied Europe.
Record low borrowing costs are supporting the vast debt pile for now, although the OBR suggests the UK remains ever more vulnerable to spiking interest payments if markets turn against us.
The OBR prediction of an economy permanently 3 per cent smaller in 2025 is due to the effect of lower business investment on the UK’S long-term ability to grow. According to the Resolution Foundation think tank, it is equivalent to £1,400 for every adult in Britain.
Mr Sunak did not address the longterm need for tax rises or spending cuts in his Spending Review, i nstead concentrating his fire on dealing with the pandemic itself, with an extra £55 billion in new spending earmarked in 2021-22 for public services on top of the £280 billion already splashed out. There were, however, signs of a future squeeze on departmental spending contained in the OBR report.
While the Treasury has been helped by plunging interest rate costs on a debt mountain set to rise to 105 per cent of GDP, from 2022 onwards, the OBR points out that spending has been cut by almost £12 billion a year against the totals set in March’s Budget.
Mr Sunak saved £4 billion by trimming the overseas aid budget and found more through a limited public sector pay freeze, but independent analysts said such sums would be dwarfed by tax rises or spending cuts needed simply to stabilise the public finances, let alone bring the debt down. Under the OBR’S central scenario, at least £21 billion of tax hikes or spending cuts are needed simply to stop debt rising as a share of GDP; in its more pessimistic scenario of a ineffective track and trace system and high Covid restrictions in place beyond the end of the current lockdown, the bill will rise to £46 billion.
Under the very loosest definition of balancing the books, the OBR estimates matching day-to-day spending with tax receipts would cost around £27 billion or 1 per cent of GDP in five years’ time.
Unless the funds can be found from a further tightening of departmental budgets – laying the Government open to accusations of a return to austerity – Mr Sunak may have to consider whether to break the manifesto pledge not to
raise income tax, VAT and national insurance.
Torsten Bell, the Resolution Foundation’s chief executive, said: “The British state has never seen anything like this outside of World War Two. The Chancellor began the process of changing his public finances plans for the years ahead, opting to spend up to £13 billion a year less on non-covid public services than previously planned.
“The i dea that there will be no permanent increase in spending postpandemic is what you might politely call optimistic. It is certain that tax rises will end up playing a bigger part in any real plan to put the public finances on a sustainable footing.”
The situation will become more acute if the Government has to spend more on Covid beyond the end of next year or U-turn on the extra £20 a week Universal Credit payments due to end in March, as the Institute for Fiscal Studies has warned. Its director Paul Johnson said borrowing could be “considerably” more than the £100 billion forecast in 2025, ushering in either “significant” tax rises or a “pretty austere few years”.
With EU talks nearing a climax, the OBR added fuel to the fire with its assessment of a no-deal Brexit and trade disruptions potentially knocking 2 per cent off growth in 2021, and a longer run 1.5 per cent drag on growth over five years due to lower trading activity.