Rishi Sunak warns the cost of Covid-19 pandemic will ‘scar’ the economy

The pandemic will permanently ‘scar’ the economy and blast a gaping hole in the public finances, an official watchdog warned yesterday.

In a bleak set of forecasts, the Office for Budget Responsibility said national output will shrink by 11.3 per cent this year – the largest fall in three centuries. It will not return to its pre-virus levels until the end of 2022.

The three years of lost growth will push down living standards and cause joblessness to rise, it added. By the end of the OBR’s forecast period in 2025, the economy will still be 3 per cent below where it was expected to be had the pandemic not happened.

The permanent ‘scarring’ is caused by firms abandoning investments, others collapsing entirely and workers making do with lower wages. With state borrowing at its highest levels since the war, the national debt will continue to climb over the next five years, hitting £2.71trillion by the next election.

The OBR’s principal forecasts were based on a vaccine not becoming widely available until mid-2021 and strict restrictions remaining in place until then.

The watchdog admitted last night that it had written its forecasts before news of the AstraZeneca jab broke. This means its best-case scenario – in which a vaccine is rolled out from spring next year with lighter restrictions until then – is now more likely.

Under that assumption, the economy may return to its pre-virus peak by the end of 2021 and scarring could be avoided.

The OBR said: ‘The coronavirus pandemic has delivered the largest peacetime shock to the global economy on record.

‘The UK economy has been hit relatively hard by the virus and by the public health restrictions required to control it.

‘The virus has also exacted a heavy and mounting toll on the public finances. In our central forecast, receipts this year are set to be £57billion lower, and spending £281billion higher, than last year.’

Government borrowing will hit £394billion this financial year, equivalent to 19 per cent of national income.

This is the highest level since 1944-1945 and close to the peak of 27 per cent seen in the Second World War. The Treasury will still be borrowing £100billion a year at the time of the next election in 2024.

The national debt is set to rise to £2.27trillion this year, growing to 105.2 per cent of the size of the economy.

Mel Stride, Tory chairman of the Commons Treasury committee, said tax rises would be inevitable to plug the enormous gap in the public finances. He urged Chancellor Rishi Sunak against making any big decisions until economic activity started to recover.

The MP added: ‘The Government has done a good job in getting us through this crisis. But some of the expected decisions on tax might feel uncomfortably close to the election.’

While the OBR’s figures, based on Mr Sunak’s spending announcements yesterday, looked bleak, some questioned whether the Chancellor was being too optimistic.

Paul Johnson of the Institute for Fiscal Studies said: ‘Rishi Sunak has been spending truly astonishing amounts of money this year and plans to continue to do so next year in response to Covid.

‘Yet this was a spending review in which he reduced planned spending into the future, cutting more than £10billion per year from departmental spending plans next year and for subsequent years.

‘He has also allocated precisely nothing for Covid-related spending after next year. And these plans assume that the temporary increase in Universal Credit will not continue beyond this year. Each of these assumptions is questionable.

‘It seems more likely than not that spending will end up significantly higher than set out today, and so borrowing in 2024-25 will be considerably more than the £100billion forecast by the OBR. Either that or we are in for a pretty austere few years once again, or for some significant tax rises.’

Any hopes of a ‘V-shaped’ recovery from the pandemic went out of the window with the OBR’s assessments.

While the watchdog expects output to have slumped by 11.3 per cent this year, it will only grow by 5.5 per cent next year, 6.6 per cent in 2022 and 2.3 per cent in 2023. Susannah Streeter, senior analyst at investment platform Hargreaves Lansdown, said: ‘This is a brutal assessment of the damage wreaked on the economy by Covid-19.

‘But desperate times need desperate measures and sustained government spending is vital to help the economy climb out of the abyss.’

There was one ray of light in the OBR’s projections – it predicted fewer would lose their jobs than it was forecasting in the summer. The watchdog thinks unemployment will now hit a peak of 7.5 per cent by June next year. However this will still mean that around 2.6million are out of work.

Mr Sunak said of yesterday’s spending review, which sets out the next steps for the country’s finances: ‘Our health emergency is not yet over, and our economic emergency has only just begun.’

Our colossal annual borrowing  is £16,000 if shared among every British household. So ALEX BRUMMER asks, how DO we pay it back?

Commentary by Alex Brummer City Correspondent for the Daily Mail

With Britain in the throes of its greatest peacetime economic emergency, it’s hard to find reasons to be cheerful.

Yet, in the midst of the catastrophic figures published yesterday, let’s not forget barely three days have passed since a great British university (Oxford) and a British pharmaceutical giant (AstraZeneca) delivered on the promise of a vaccine.

And it is to the credit of Chancellor Rishi Sunak that, surrounded by carnage, he resisted the temptation of imposing austerity as a means of restoring the UK’s finances. Instead, he seized on innovation.

Sunak made clear that the Government is looking beyond the profound destructive impact of coronavirus. It wants a nation fired up by research and development; a Britain that is investing heavily in updating its Victorian infrastructure and is confronting head-on the social and prosperity disparities between the North and South.

The easiest course for any government faced with an accumulation of terrifying national debt – at more than £2trillion it is higher that the whole annual output of every Briton – would be to take an axe to long-term investment.

That is what was done in past national crises and it weakened the fabric of the country. But now we are seeing an admirable determination to deliver £100billion of capital investment over the next year.

This includes 40 new hospitals, £15billion on R&D, more money for full fibre broadband, full speed ahead for HS2 and funds for levelling up the North.

Indeed, the budget for capital spending marks a major shift. It is more than double that committed over the previous decade and is an all-out effort to jet propel the UK’s productivity as it emerges from the grim legacy of coronavirus, and finally leaves the EU.

The backdrop to this leap of faith could not be more scary. The Office for Budget Responsibility (OBR) warns that the fall in national output for 2019/20 will be 11.3 per cent – ‘the largest annual fall since the Great Frost of 1701’.

All hopes of the so-called ‘V’ shaped recovery have been shot full of holes by the OBR’s forecasters. While there will be a speedy recovery in output over the next couple of years, the chilling reality is that Britain’s economy will be three per cent smaller in 2025 than it was when the virus blew in.

The only comfort from this is to note that a Tory government is doing far better in keeping mass unemployment at bay than anyone could have imagined.

Earlier there were forecasts from the OBR and others that the jobless rate could hit almost 12 per cent of the workforce by the year’s end. The Chancellor’s interventions in the labour market including furlough, expanded apprenticeships, the kick-start scheme for young people and other job retention plans, have stopped that.

Peak unemployment of 7.5 per cent of the workforce (or 2.6million people) will hit in the last quarter of 2022. 

That’s a lower number than in the immediate aftermath of the financial crisis when it topped 8 per cent and far below levels hit in the early part of the Thatcherite revolution of the 1980s. The main reason why the jobless rate has not escalated out of control is because of the Government’s fiscal support.

That said, the budgetary numbers are startling. Some £280billion on Covid-related spending in the current financial year sends the deficit into the stratosphere at £393.5billion – or a shade under £16,000 for every household. The number is forecast to drop sharply in 2021/22 as the pandemic fades. 

However, we will still be borrowing £102billion a year in 2025-26. To put this in context, this year it will be almost three times that left by Labour after the 2007/8 financial crisis. 

Britain can draw some comfort from the fact that even though accumulated debt will peak at 109.4 per cent of total output in 2023-24, the UK will still be in a better position than some of our competitors including Japan and the US.

However, the cost of servicing that debt is going to be a huge gamble. Low and negative interest rates actually mean that the Government is potentially making a huge saving on interest on an estimated £70billion over the next five years.

The difficulty will arise if central banks were suddenly to end the era of cheap and easy money – if, for instance, there were a new bout of inflation.

Britain’s borrowing and debt would be so high that the country would be looking down the barrel of insolvency.

The ultimate responsibility for deciding how best to tackle the debt mountain rests, of course, with Rishi Sunak.

There will be those who argue that large scale tax increases are the only way to steer away from fiscal catastrophe.

But to raise general taxation (such as VAT or income tax) when the economy is still fighting to recover would only make things worse by shrinking household incomes and costing jobs.

The best course is for the Government to let enterprise flourish by providing tax incentives to entrepreneurship and commerce.

That would be the courageous course for a Chancellor who already has demonstrated boldness.

Now, we need to see more.