In a subdued House of Commons, the Chancellor of the Exchequer Rishi Sunak today delivered a one-year Spending Review for 2021-2022. After months of generous government spending to tackle both the health and economic impact of the Covid-19 crisis, estimated at £280 billion, today’s statement and the accompanying documents issued by the Treasury and the Office for Budget Responsibility (OBR) provided a sharp reality check on the scale of the economic challenge faced by the country in the years to come.
With the OBR reporting the biggest economic contraction in peacetime history, the Chancellor stated that the price of providing this necessary support has been high and warned that it would be unsustainable over the medium term. The OBR forecasts that GDP will fall by 11.3 per cent in 2020, the largest drop in annual output since the Great Frost of 1709 and on track to be the second sharpest contraction in Europe.
Although the economy is expected to recover in 2021, the rebound is expected to be slower than the hoped-for V-shaped recovery, with the economy not expected to reach pre-crisis level until the end of 2022 (an increase of 5.5% in 2021, followed by 6.6% in 2022). Long-term economic scarring is expected, with the economy 3% smaller in 2025 than was forecast in March of this year.
The Chancellor confirmed that government borrowing this year would be the largest in peacetime at £349 billion – 19% of GDP. Unsurprisingly, this is expected to fall in the coming years, but is still forecast to be £100 billion in 2024-25. Although some in the Treasury will take comfort in the current low cost of borrowing, there will be widespread concern about the impact on the public finances of a relatively modest increase in rates in the coming years. Noting the scale of the problem, the Chancellor said we have a responsibility to return to a sustainable fiscal position. There were no tax announcements however – these will come in future Budgets, the first of which is expected before the end of the current financial year.
It is worth noting that the OBR forecasts came with health warnings: that the forecasts were based on the assumption of a Brexit deal and that the economic outlook remains highly uncertain and depends upon the future path of the virus, public health restrictions, the effectiveness of vaccines and the reactions of households and businesses to all of these. Alongside its central forecast, the OBR also published figures for alternative upside and downside scenarios, which underscored the uncertainty facing the country and its economy.
The focus of today’s statement was on prioritising funding to support the country’s response to Covid-19 and invest in the UK’s recovery, with the immediate priority being to protect people’s lives and livelihoods. With unemployment forecast to rise to 2.6m (7.5%) in Q2 next year, the Treasury had briefed overnight a £4.6bn job support package focused on skills and support for young people and the long-term unemployed.
The expected freeze on public sector pay outside the health service was confirmed by the Chancellor, although with the exception that those on lower incomes – below £24,000 – would see some increase, at least £250 per year. An increase in the Living Wage to £8.91 and an extension of its application to those 23 years old will be welcomed by workers but will undoubtedly cause real concern amongst businesses struggling to survive.
The Chancellor and Prime Minister risked a political row in their decision to cut the overseas aid budget from 0.7% to 0.5%, breaking a manifesto commitment and a pledge that had been signed into law under David Cameron’s leadership. Given the relatively small financial savings and cross-party support for the policy, the Government must have made the political calculation that the majority of the British public will see this sharing of pain as the right thing to do. But it is a risk and perhaps an unnecessary one which has already resulted in a ministerial resignation in protest.
The Chancellor will hope that there is as much focus on government spending announced today as there is on the wider economic backdrop. In his speech, he set out the government’s ambitions to deliver stronger public services with core day-to-day departmental spending growing by £14.8 billion in cash terms next year compared to 2020/21. He published the long-awaited National Infrastructure Strategy today outlining how the government would deliver the next stages of its investment plans with the announcement of £100 billion of capital spending next year. His final announcement today was a £4 billion ‘Levelling Up Fund’ which would provide resources that MPs and communities could bid for, in order to benefit their local areas.
Today’s statement was a relatively short one and much of the detail is contained in the documents released by the Treasury and other government departments, which collectively run to hundreds of pages. Expect to see analysts and commentators examine these carefully in the days to come for the detail on spending and the infrastructure plans to see what is contained with them. Already some commentators are pointing out that although the headline spending provision for next year looks generous, in some government non-Covid related spending it is actually lower than was planned in March. Perhaps that is unsurprising, but it shows that this year more than most, the devil may be in the detail.
Office for Budget Responsibility’s Latest Economic and Fiscal Forecast
The OBR provided a stark economic backdrop.
- The economy is estimated to contract by 11.3% – the largest fall in output for 300 years
- 5 % growth predicted next year
- No return to pre-crisis levels until Q4 2022
- Long term scarring means the economy will be 3% smaller by 2025 than predicted
- Predicted £394 bn borrowing this year – the highest in peacetime history
- Borrowing to remain at £100 bn or 4% of GDP for remainder of forecast
Some Departments will receive more funding than others – there are always winners and losers
- Health: £6.3 billion cash increase in NHS spending in 2021-22, compared to 2020-1, as well as funding to invest in new diagnostic equipment, support training for the NHS workforce, refurbish and maintain infrastructure, and eradicate mental health dormitories. This is in addition to £3 billion of investment to support NHS recovery. There is also increased funding for R&D with almost £15 billion in 2021-22 including funding for clinical research to support delivery of new drugs, treatments and vaccines.
- Education: £2.2 billion uplift for the core schools’ budget in 2021-22 compared to 2020-21 levels of funding. In addition, the Spending Review will fund investment in Further Education, continue delivering opportunities for lifelong learning, and fund the Holiday Activities and Food programme to provide enriching activities and a healthy meal for disadvantaged children in the Easter, Summer and Christmas holidays in 2021.
- Police: additional £400 million to help recruit 20,000 additional police officers by 2023, with 6,000 new officers in 2021-22, £63 million to tackle economic crime, and £337m extra funding for the criminal justice system, along with establishing a world-leading Counter Terrorism Operations Centre.
- Local authorities: increasing core spending power for local authorities by an estimated 4.5 per cent in cash terms, along with over £3 billion of additional Covid 19 support and an extra £254 million of funding to tackle homelessness and rough sleeping.
- Jobs: an additional £3.6 billion to build on commitments made in the Plan for Jobs. This includes the new 3-year £2.9 billion Restart scheme to help more than one million unemployed people find work.
- Overseas Aid: The overseas aid budget has been cut from 0.7% to 0.5% in 2021, breaking a manifesto commitment although it is hoped to return to 0.7% in the future.
- Defence: The Chancellorconfirmed the recent announcement of £24 billion of investment in defence.
Infrastructure and Levelling Up
- £100 billion of capital expenditure next year, including introducing a £7.1 billion National Home Building Fund
- A new £4 billion Levelling Up Fund to invest in local infrastructure that has a visible impact on people and their communities and will support economic recovery.
- There are plans to re-write the Green Book – this sets out guidance on how to judge the value generated by public spending projects, which has been judged to skew things in favour of London and the south east where the economic return is greater.
- National Infrastructure Strategy was published alongside the Spending Review setting long-term targets for levelling up and identifying a range of projects either planned or already underway. It aims to unite the UK, creating regional powerhouses, making cities the engines of growth and revitalising towns. Notably, it also links to the Prime Minister’s 10 Point Plan for a Green Industrial Revolution with a key role in delivering net zero emissions by 2050.
- A new UK infrastructure bank – headquartered in the north of England – to work with the private sector to finance major new investment projects across the UK. Full details are expected in next year’s Budget. It will co-invest alongside private sector investors including banks, institutional investors, sovereign wealth funds, pension funds and global infrastructure investors and will be able to lend to local and mayoral authorities for key regional infrastructure projects.
- The Treasury will set up its Northern headquarters next year. This is part of a wider plan that will see 22,000 roles relocated out of London and the South East by 2030.
Public Sector Pay and National Minimum Wage
- Public sector pay restraint, possibly for one year (apart from health workers)
- An increase in the National Living Wage, by 2.2% to £8.91 an hour from April 2021, likely benefiting around two million of the lowest paid.
- Targeted support to 2.1 million public sector workers who earn below the median wage of £24,000 will be guaranteed a pay rise of at least £250.
- The business rates multiplier will be frozen in 2021-22, expected to save businesses in England £575 million over the next five years.