Mr Sunak’s bad news

By
10 mins. to read
Mr Sunak’s bad news
Cubankite / Shutterstock.com

On Wednesday, Chancellor Sunak delivered the Autumn Spending Review. We were expecting bad news, but the reality of our economic plight is even more daunting than anticipated, writes Victor Hill.

An economic emergency

We got the bad news first – and it was pretty sobering. The UK’s GDP will shrink by more than 11 percent in 2020, according to the Office for Budget Responsibility’s (OBR) central scenario. That would be the biggest recorded fall since the Great Frost of 1709 (one of the last occasions when the Thames froze solid). Unemployment will rise to 7.6 percent in the second quarter of next year, up from 4.8 percent currently – that’s about 2.6 million people. It could be much higher than that, as many people have left the workforce this year without signing on.

The fiscal deficit this year will come in at just under £400 billion – the highest ever, equal to 19 percent of GDP, driven by reduced tax revenues and ballooning welfare bills. The national debt will peak at 97.5 percent of GDP in 2025-26. The nation by then will be in hoc to the tune of £2.8 trillion. Most public sector workers will not get a pay rise (though their gold-plated defined-benefits pensions, which few in the private sector now enjoy, remain secure). Most significantly, even if there is an end in sight to the public health emergency, the economic emergency has only just begun.

Wages will be lower in years to come and growth will be lower once the coronavirus pandemic is but an unpleasant memory. Thanks to long-term scarring the UK economy in 2025 will be three percent smaller than the level presumed in Mr Sunak’s 11 March budget. (That was the day I last went to central London – for The Spectator’s budget review and drinks party. Another world.) The UK economy will not return to pre-pandemic levels of output until Q4 2022. And the IFS suggests that even that is optimistic.

The single largest item of expense that has sunk British government finances is the cost of the furlough scheme (Job Retention Scheme) by terms of which the state is still paying the wages and salaries of nearly nine percent of the entire workforce (back in April-May it was nearly one third). By the time this comes to an end in March next year (but will it?) it will have cost the Exchequer about £280 billion – all of which will have been financed by borrowing. The total cost of the pandemic to the British state is reckoned to be £555.4 billion, based on the OBR’s estimate of the additional borrowing impelled by the pandemic. That works out at about £10 million per Covid fatality, or £8,200 per citizen. 

For all the gloom, the Chancellor was a man determined to splash the cash. The reckoning will only come once the economy shows signs of recovery. Meanwhile, Mr Sunak earmarked a £55 billion increase in day-to-day departmental spending for next year and confirmed that the government would press on with £100 billion of previously announced infrastructure spending. That means that HS2 – which to me looks more like a white elephant on steroids with every passing day – is assured. (Whatever happened to Crossrail, by the way? It was supposed to become operational in December 2018 – you get my drift…) The NHS and social care will get an extra £6.6 billion next year; and schools and defence will also get bigger budgets.

The National Living Wage (NLW) will rise from £8.72 to £8.91 from April next year. That is much less than pre-figured; but any generous increase might have been an additional brake on getting people back to work. The Treasury still maintains the target that the NLW will be equal to two thirds of median earnings by 2024. Our etherised hospitality industry will not welcome this.

Those ungainly two words “tax rises” were studiously avoided, though everyone knew that they were the ghost at the feast. This was a spending review, and the delicate subject of taxes will not be addressed until the budget, expected in March next year. At the last election, the Tories pledged not to raise income tax, national insurance contributions or VAT. But then they also promised to maintain overseas aid at 0.7 percent of GDP. 

£4 billion will be cut from the foreign aid budget which will be set – temporarily, so we are told – at 0.5 percent of GDP rather than the 0.7 percent that Mr Cameron enshrined in law. The Archbishop of Canterbury predictably described that as shameful and wrong. Personally, I’m not sure how moral it is to borrow billions that our children will have to pay back in 30 years’ time to fund often ill-aimed largesse – such as boosting rice production in China (one of the few countries predicted to grow this year and which increasingly poses a strategic threat to us). Other developed nations don’t spend nearly as much as we do on overseas aid, and don’t beat themselves up about it.

And Britain assists developing countries in so many ways quite apart from the aid budget, not least out of the £5.4 billion of private and personal sector charitable donations chalked up this year. (I bet a lot of my readers maintain standing orders helping to finance fresh water in remote parts of Africa, or whatever.) Currently, the exorbitant bill for accommodating asylum seekers who have entered this country illegally is borne by the Home Office. I am not alone in thinking that should come out of the aid budget.

The prospect of tax hikes

It is not really a question of if there will be tax rises but more one of when they will come – and how stringent they will be. Tories generally believe that excessive taxes stifle enterprise; but they also generally believe in sound finances and that, long-term, nations cannot live beyond their means any more than families can. Messrs Cameron and Osborne addressed the dire public finances inherited from Mr Brown after the financial crash with a regime of austerity – swingeing spending cuts across the board. But almost any cuts in public services right now are simply politically impossible. In the current financial year, spending will be up by £280 billion. Austerity has become a dirty word.

As I reported in September, one option favoured in Treasury circles is to align capital gains tax (CGT) rates with income tax rates – something recommended by the Dickensian-sounding Office of Tax Simplification (OTS). Some commentators fear that this could provoke a fire sale of second homes as landlords and investors bail out of property. That could bring about a fall in property prices. There are already rumours that some business owners are accelerating the sale of their businesses in anticipation of a substantial rise in CGT as soon as next year.

Political considerations will be paramount. Mr Sunak will not wish to choke the economic recovery anticipated next year and in 2022 by imposing tax rises too early. On the other hand, if he waits until 2023 that will augur poorly for the election cycle: there will have to be a general election in the UK before December 2024. And Mr Johnson is thought to agonise more about elections than about public finances.

Brexit: epilogue postponed

On the day of the Chancellor’s spending review the OBR came up for air (again) to say that a no-deal Brexit would cost the UK two percent of GDP next year and an additional 1.5 percent of GDP over five years. Mr Gove warned again of possible dislocation in Kent, the Garden of England. While the deadline for a deal has been repeatedly postponed, it is clear that something – even if it is nothing – will have to be agreed by the time of the next Brussels EU summit on 10 December. I was expecting some kind of breakthrough this week – but now we enter the darkness of December without a map.

In fact, all the OBR’s best guesses and spreadsheet extrapolations should be consumed with a large pinch of salt. We don’t know how quickly the vaccination programme will be rolled out, or how effective it will be, and to what extent we can assume a return to normality by the end of Q2 2021. We don’t know how quickly the rest of the world will cope either. University College London (UCL) warned this week that vaccines may cause coronavirus vaccines to mutate. We don’t know how the post-Brexit trade dispensation will play out, deal or (less probably) no deal. We don’t know if the closure of one door will lead to the opening of others. We don’t know when interest rates will begin to head back up again – and blow another hole in public finances.

Risk is manageable. Uncertainty isn’t.

***

The paradox of nationalism

Hitherto, the size of the deficit in public spending in Scotland – around nine percent of GDP, which is effectively financed out of the UK Exchequer – has been a strong argument against separation. But now the Scottish separatists claim that their deficit is actually much smaller than the prospective deficit of the UK government at 19 percent of GDP – thus advancing their cause. Apparently, most Scottish voters believe that Mr Sunak’s furlough scheme – which has supported 900,000 jobs in Scotland (a bigger proportion of the total workforce than in England) – is financed by the administration in Edinburgh out of Scottish taxes.

I am an ardent unionist and one of the dwindling band of folk who describes himself as British. But all marriages must be based on mutual consent. I agree with Mr Johnson who bluntly told a group of Tory backbenchers that devolution had been a disaster. It is a disaster because the SNP government in Edinburgh gets all the credit for spending taxpayers’ cash while London picks up the tab. And the Edinburgh government is subjected to a much easier ride in the media than the one in London, despite mediocre outcomes in education and healthcare. When did Ms Kuenssberg last pick a fight with Ms Sturgeon?

If the Johnson government could see the bigger picture beyond the pandemic it would be advocating large-scale constitutional reform – before it is too late. Let the people of Scotland have financial autonomy just as they have judicial autonomy. Let the Edinburgh government spend all taxes raised in Scotland – less transfers to fund the UK armed forces and the foreign office. (Oh yes, and international aid on which the separatists are so keen.) Let them then see how they fare.

Call that a federal system if you will. Canada and Australia, which are much bigger than the UK in landmass but smaller in population, both have eminently successful federal structures. Looking back (pointless, but interesting), Mr Cameron should have called a constitutional convention in the early morning of 24 June 2016, instead of flouncing from the stage.

The pandemic has exposed the glaring inadequacy of the governmental machine in the UK. It is the private sector – big pharma, the supermarkets and the logistics companies amongst others – which has kept the country going while the schools, universities and courts floundered. And yet I can see no reforming zeal on the part of Mr Johnson’s government, which seems more preoccupied with internal strife and the green-tinged WhatsApp-generated machinations of the prime minister’s fiancée.

If Mr Johnson had the necessary energy, vision and imagination, then constitutional reform would be near the top of his packed agenda. Gordon Brown was the man, once, who was going to give the UK a written constitution. Alas, his premiership was hijacked by the financial crisis of 2008-09. It would be sad if Mr Johnson’s premiership (which many of my Tory friends anticipated with hope – though I did not) were, in retrospect, seen as being similarly hijacked by the pandemic.

As it is, the SNP seems set to win the Holyrood elections next May on the platform of a second separationist referendum.  Which might upset the course of national finances forever.


Comments (4)

  • John Davis says:

    It is also the case that some business owners have been accelerating the sale of their businesses in anticipation of Brexit. Apparently expected EU staff shortages, trade barriers, rising export costs and concerns over freight delays have concentrated minds on the future loss of profitability and competitiveness. Who would have thought it.

  • Luparini says:

    Sir,
    There is no such thing like uncertainty, yes I know Mrs. Thacther told the same very thing about society.
    It’s going to be no deal Brexit, until it’s proven otherwise.
    It’s easier to kick the can along the road than take responsability and act.
    Bottom line :It’s a waste time trying to figure out what is the plan, if any, or the map.

  • Bob Mackintosh says:

    To concisely summarise your estimable analysis Victor, we’re broke! But every other country in the world will be in the same boat, or similar. Thus this should not affect the strength of the pound very much?
    Financing the deficit by just rolling out the printing presses and paying off the bill with freshly-printed money would be much simpler than financing by debt. And probably most other countries will be up to the same trick also. ( Would that private citizens could do the same!)
    It just seems that permanent changes to financial systems, harking back much further than 1709, will be the likely outcome. Digital currencies will also likely come to the fore?

  • Paul King says:

    These days I like saying I’m British……
    And that I am from Great Britain

    If we were great once we can be great again……..its in there somewhere……..
    I think CANZUK is some hope on the horizon……..but does Boris have the strength to make it happen ?

Leave a Reply

Your email address will not be published. Required fields are marked *