The pandemic and the economy – could we have done better?

Second draft of history: what lessons are there from the extraordinary experience of the last two years? This week Reaction marks the lifting of the final Covid-19 restrictions in England with an assessment by our writers of how the lockdown and the pandemic reshaped our politics, medicine and attitudes to risk.

With a cosmopolitan population and a greater range of international links than virtually any other country and with much of the population concentrated in a small area in Southern England, you might expect that the economic performance of the UK should have been more severely impacted by Covid than most other countries. In fact, the performance has been about average so far and will probably move up the league table when the statistics get revised upwards as they often do, especially in periods of major change.

But the game is not over until it’s over.

And full judgment has to be suspended until countries have dealt with the inflationary consequences of the pandemic. Most countries expanded both fiscally and monetarily, with the huge 20% jump in the US money supply during spring 2020 making it possible for other countries to take economic risks without fearing a devaluation against the dollar. These policies worked well but the boost to demand has combined with disruptions to supply to generate inflation. Only when this has been subdued will we be able to measure the full economic cost of the pandemic.

The UK has a more flexible labour market than other similar countries and in theory that should limit the extent to which inflation spreads and will make it easier to subdue. But the more flexible labour markets have also pushed corporate wage costs up faster than in other countries, though much of the increase has been in signing on fees and bonuses and not just in wages. This means that the cost effect should disappear quickly when labour shortages come to an end.

Initially, the measured lockdown effect for the UK showed a much bigger fall in output, of over 9%, than other major countries in 2020. Cebr’s World Economic League Table for 2022 shows the UK in the bottom quartile for growth that year, accompanied only by Spain of the main economies and in between Argentina and the Philippines. Incidentally the largest fall, of 56%, was in Macao as gambling revenues disappeared.

But a proportion of this reflects the way in which the UK’s public sector is measured. The Atkinson Committee was set up by Gordon Brown in the hope of making New Labour look good as it tried to improve on measuring the public sector more accurately by output rather than by input. In fact, since management of the public sector was not one of New Labour’s strong points, the new measurements made much less difference than he had hoped.

Generally, the Atkinson improvements make the UK figures look more realistic than input-based figures. But since revenue, which is the main way of measuring productivity in the private sector, is not a realistic measure in government, output has to be measured by proxies such as patients seen and pupils taught face to face. And many of these proxies were particularly badly affected by the pandemic.

Internationally comparable figures suggest the real hit to the UK was about a decline of 7%, still in the bottom half of the table but probably not much worse than might have been expected, given the UK’s potential susceptibility.

The UK was one of the first countries to deploy the vaccine and although the lockdown from the Kent variant of the disease reduced some of the vaccine deployment’s beneficial consequences, eventually the economy recovered strongly. The UK was one of the fastest recovering countries in the year 2021, with only China and India of the major economies growing faster. Of course the same problems that made the 2020 figures understate UK performance helped overstate the growth in 2021, though because teaching and seeing patients face to face haven’t fully recovered to pre pandemic levels, the overstatement is by about 1% only.

By the end of the year GDP had recovered to its pre pandemic level, roughly on a par with most other Western economies.

Many economists try to measure the longer term economic effects of the pandemic by the extent of so-called scarring, the extent to which GDP long term is reduced from trend. Sadly, there are no good measures of this. Indeed, Cebr’s interviews with tech companies and others suggest that in some areas growth has been boosted by the forced adoption of working from home and remote working technologies.

On the other hand, the willingness to work since the pandemic has not recovered with both some older people reluctant to return to work and some young people to start work. Compared with pre pandemic trends we are short of roughly a million employees, 3% of the workforce, although their impact on GDP might be about half that.

I have been observing the trend toward either not working or working in low productivity lifestyle jobs for a number of years since I first wrote about The Lifestyle Economy in 2018. It seems that the pandemic has increased the numbers in these categories. In theory this is another form of scarring. But if people are doing what they want to do, who are we economists to say it’s a bad thing? On the other hand, work is taxed so those who get their satisfaction from working also contribute by paying for public services. Lifestyle or leisure are untaxed so there is no beneficial spillover effect unless reduced stress and disease or increased caring for those who would otherwise be a claim on public resources are a consequence.

Looking at the rest of the world, two countries stand out.

Taiwan, with its past experience of bird flu, managed the pandemic most successfully from an economic perspective. The country managed to hold its number of cases below 20,000. And it suffered fewer than a thousand deaths. GDP actually rose by 3.2% in 2020 and by 6% last year. It followed a very strict lockdown policy but took action very early.

Sweden adopted the opposite approach to Taiwan and had relatively limited lockdowns. But GDP declined by only 2.8% in 2020 and rose by 4% in 2021.

The two major economies, China and the US took very different approaches as might have been expected from their respective ideological positions. China still has an aggressive zero-Covid policy. Yet its economy has been affected only to a limited extent – growth was positive in 2020 and powered ahead by a further 8% in 2021, despite being the origin of the disease. The US largely left policy to state and local governments. GDP declined by less than average at 3.4% in 2020 and rose by 5.7% in 2021.

Comparing these different countries hints that the more extreme policies, aggressively applied, worked best. Either halt migration and have early and aggressive lockdowns to achieve zero-Covid as was the trend in East Asia or follow a relatively relaxed approach, leaving much action to personal choice as in the US or Sweden.

Both seem to have produced better results than the somewhat half-hearted lockdown policies followed in many parts of Europe often following flawed modelling results from academics and doctors. The European lockdown policies seem to have been heavily influenced by the early experience in Italy where the initial scale of the pandemic did in fact overwhelm their public health system. In retrospect the lockdowns and the associated economic damage seem to have been largely unnecessary except in the early phase of the disease. But those making the decisions did not know that they could get away without locking down, and the political risk of refusing to lock down when advised by academics and doctors whose prediction flaws took time to expose made it hard for the politicians who made the decisions. I find it hard to blame them, though the groupthink of those who advised them should have been avoided.

Longer term all countries have increased their public debt to levels not previously seen outside wartime. Because the key economy, the US, took the lead, other countries were able to follow. With inflation now real and much of debt indexed, these costs will remain when the pandemic has gone away. This debt is likely to be the most real long term effect of Covid.

Douglas McWilliams is Deputy Chairman of Cebr, the economic consultants.