As he stood up to deliver his spending review on Wednesday Rishi Sunak declared: “Our economic emergency has only just begun”.
Those who have been unable to work for the past eight months or have seen their businesses destroyed by state-enforced closures might reasonably take issue with the idea that the crisis is somehow only now beginning.
Yet to be charitable to the chancellor, it’s at least arguable that the overall economic costs of this pandemic are only now coming fully into focus.
The last time, before this week, that the Treasury’s official forecaster, the Office for Budget Responsibility (OBR), had put out a full set of economic forecasts was way back in March, before the first lockdown, which was an entirely different world in so many ways.
The OBR’s new outlook on Wednesday certainly made for daunting reading relative to what it laid out in March.
But just how bleak is the picture it paints relative to what we might have expected? And what are its implications for the public finances and for our living standards?
The OBR now estimates that the UK economy will contract by 11 per cent in 2020. This would be the worst year since 1709.
Yet it should be noted that the forecast is slightly less severe than the 12.4 contraction that the OBR pencilled in over the summer.
Looking to the coming years, the OBR, sensibly, stresses that almost everything will depend on whether the virus is brought under control and factors such as how rapidly we can roll out new vaccines, allowing normal economic life to return.
The OBR’s central forecast has UK GDP getting back to it’s pre-crisis level by the third quarter of 2022.
However, thanks to the “scarring” to the economy from higher unemployment and lower investment this year, the OBR still sees a 3 per cent of GDP gap by as far out as 2025 relative to the growth path expected back in March.
The Resolution Foundation think tank notes that this is equivalent to £1,400 for every adult in Britain.
On a macro level this is the most relevant estimate of the overall economic cost of the crisis.
The OBR has unemployment rising from around 4.1 per cent today to 7.5 per cent in its central forecast.
This implies an additional 1 million unemployed.
While this would be the highest rate of joblessness since the aftermath of the financial crisis it’s also well below the 10-12 per cent jobless rates the OBR laid down in some scenarios over the summer.
This is mainly because the forecasters expect the chancellor’s extension of the furlough scheme through to next March to keep people in work who would otherwise have been made redundant.
Over the summer there had been suggestions that many jobs in retail, hospitality and leisure were “unviable” and unlikely to ever return.
But the successful vaccine trial results this month provide hope that former UK public consumption patterns really can recommence and that these hundreds of thousands of jobs will be viable next year after all.
The chancellor’s new outlays in this Spending Review of billions of pounds of support for the long-term unemployed and new entrants to the workforce should also help keep jobless levels down, although the OBR does not factor in the impact of such interventions.
Borrowing and debt
The area where the OBR’s forecasts are worse than previously expected is in public borrowing.
Thanks to the extension of furlough and other support for firms it now projects the deficit to hit £394bn (up from the £372bn it pencilled in over the summer).
That’s equivalent to 19 per cent of the entire economy. The UK government has never borrowed so much outside of war time.
Inevitably, borrowing on that scale pushes up the public debt dramatically. The OBR now sees the national debt to GDP ratio hitting 105 per cent this year.
This vast level of state borrowing, as the OBR and most of the economics profession has emphasised, is supporting the economy in the present crisis.
The big question is how much borrowing is likely to remain when the economy has recovered to more normal activity levels – in other words how big is the “structural deficit” likely to be?
The OBR’s stab at an answer is that it sees a structural deficit of around 4 per cent of GDP in 2025. To close this entirely would require around £80bn of cuts or tax rises.
The chancellor could aim for only current budget balance - which means a balanced budget excluding state capital investment spending (which should, in theory, help the economy grow in the long term).
But this measure of public borrowing is also projected to be in deficit by around 1 per cent of GDP in 2025.
The OBR estimates the chancellor would need to find at least £20bn of consolidation to stop the debt rising as a share of GDP, and possibly as much as £46bn if the recovery is weaker than its central estimate.
The chancellor did outline some cuts on Wednesday, snipping around £10bn from non-Covid related Whitehall departmental budgets next year through his pay freeze for many public sector workers and the £4bn reduction in foreign aid.
But despite chatter about tax hikes before the Spending Review, most of the implied action to fill the fiscal hole is firmly put off for the future.
Looking at the Treasury’s spending measures “scorecard” Ian Mulheirn of the Tony Blair Institute says it seems like the chancellor is eyeing £15bn of cuts to departmental spending and £43bn in tax rises.
This, though, is very provisional. The economy could recover faster than expected, reducing the need for this amount of fiscal consolidation.
Or, of course, the Rishi Sunak could shift policy, as he has many times since becoming chancellor in February.
The Institute for Fiscal Studies notes that the chancellor’s plans imply he will be able to remove a temporary £20 a week increase in universal credit payments next spring (when unemployment is likely to be still rising) and that there will be no need for any permanent extra Covid spending beyond 2021-22, both assumptions the think tank describes as “questionable”.
One unusual feature of this set of forecasts from the OBR was that the watchdog spelt out the economic implications of a no-deal Brexit at the end of the year.
While the prime minister has claimed that the UK has nothing to fear from a no-deal Brexit, the OBR makes it clear that such an outcome would constitute a severe setback for the recovery next year.
It calculates that the disruption of leaving the European Union’s single market and customs union without a free trade deal would knock GDP growth by around 2 per cent next year and push unemployment to a peak of 8.3 per cent, rather than 7.5 per cent.
This is a firm rebuttal of the argument emanating from Downing Street earlier this year that coronavirus pandemic disruption had somehow reduced the economic costs of a no-deal Brexit.