The full extent of the vast, historic impact on the British economy of the Coronavirus pandemic is confirmed by the publication of a new report from the Office for National Statistics released today. The shock delivered to output and activity means the political and economic tremors will be felt for years to come.
The report concludes that the UK’s GDP shrunk by 5.8% in March, compared with February. This is the largest single drop in GDP since the ONS’s latest data series began in 1997.
Overall, GDP fell by 2% in total during the first quarter, when compared with the 4th quarter of 2019. This is the greatest quarter-on-quarter dip since the Global Financial Crisis, even if it is not quite as severe a hit as economists had anticipated.
In response, the Chancellor, Rishi Sunak, has said: “It is now very likely that the UK economy will face a significant recession this year.” He added: “We’re already in the middle of that as we speak”.
The analysis, based on Monthly Business Survey returns and other external data, indicates that “the coronavirus pandemic had a significant and broad-based negative impact on output”, and has led to declines in “nearly every aspect of the economy”, from manufacturing to accommodation and food services.
Yet even in the difficult circumstances of the lockdown, there were some industries that managed to expand – pharmaceuticals, IT support, and cleaning products have all managed to increase their output.
It is not just the scale of the UK’s dive in GDP which matters, but the speed at which this dive has taken place, as the government has been forced to stifle consumer demand, business activity, and production.
The ONS report notes that the 5.8% decline in GDP during March 2020 occurred within the space of a single month. During the Global Financial Crisis, from the peak in February 2008 to the lowest point of March 2009, a 13-month period, GDP contracted by 6.9%.
For now, however hard the UK has been hit by this latest crisis, the first quarter figures remain less severe when compared to several European countries. In France, GDP fell by 5.8% across the first quarter. In Italy, GDP has fallen by 4.7% over the same period.
Although, the UK has taken a bigger blow than the US economy, which has only so far suffered a – 1.2% hit to output.
The UK’s relatively small decline for the first quarter is probably explained by the fact that the UK only began fully locking down relatively late in the quarter, on 23 March. Other reports suggest that there is greater hardship to come – economists anticipate a deep recession that will surpass the UK’s post-War slump and the go further than the depths reached at the height of the Spanish Flu in 1918.
Ruth Gregory, Senior UK Economist at Capital Economics said: “March’s GDP figures showed that the UK economy was already in freefall within two weeks of the lockdown going into effect. And with the restrictions in place until mid-May and then only lifted very slightly, April will be far worse.”
The ONS report comes fast on the heels of the Bank of England’s Monetary Policy Report, published last week. The Bank’s report concluded that GDP had fallen by about 3% in the first quarter as a whole. It also predicted that this could plummet by a further 25% in the second quarter of this year.
All of this will come at a heavy cost to the exchequer and the taxpayer. The government’s furlough scheme alone is now thought to cost £100bn.
A leaked document from the Treasury, revealed by the Telegraph this morning, estimates that the cost of the crisis to the UK taxpayers will reach £300bn, and warns that Britain will have a budget deficit of £337bn by the end of the financial year. This is up from the £55bn for 2020-21 estimated in the March budget.
The worst case scenario – a dreaded “L-shape recovery” – could see the deficit reach a stunning £516bn at the end of the current financial year. In the best case scenario, a quicker rebound – V-shaped recovery – would lead to a deficit of £209bn.
This presents a particular challenge to a government which says it wishes to turn its back on the age of austerity. The cutting and retrenching route is off the table. Instead it looks likely that the government will eventually seek to raise taxes to stabilise the nation’s finances. The Telegraph report on the leaked treasury document includes several suggestions about how this might be achieved. Suggestions include releasing the triple tax lock preventing rises on VAT, income tax, and national insurance as well as the possibility of green and carbon taxes to bring in new revenue.
Rupert Harrison, Portfolio Manager at BlackRock, and a former chief of staff to George Osborne when he was Chancellor, tweeted: “I doubt Rishi Sunak is paying attention to the need to announce consolidation plans any time soon. We’re still in the crisis phase and central banks are standing behind finance ministries.”
He added: “Markets are worried about the right response to the virus and how quickly growth can safely return. They’re not worried about deficits when central banks are doing QE and de facto controlling the yield curves.”
Overall the government’s plan is to borrow on a vast scale, then stabilise the day-to-day spending through tax rises, enabling the government to prevent the deficit from climbing even higher than it otherwise might.
The government will aim to find the point at which it can maintain an historically colossal deficit, without also losing the confidence of those in the debt markets investing in government bonds. They will want to keep spending on recovery and reconstruction without incurring hikes in interest rates from those financing it.
This is a tricky balancing act that represents as great a challenge as any faced by the British government in post-War history. But Britain has never defaulted on its sovereign debt – not after the French and Napoleonic conflicts in the nineteenth century nor after the devastating World Wars of the twentieth.
Sunak will now have to take care that the country does not become crippled by the ensuing costs of the lockdown.