The year that shook the economy

Why was the UK hit harder than any other G7 economy? And what does the pandemic mean for its future model?

(Photo By jonathan mchugh)

The United Kingdom recorded its first cases of Covid-19 on 31 January, the day it formally left the European Union. After more than three years of parliamentary deadlock and political drift, some on the right believed Boris Johnson’s ebullience and resounding general election victory would translate into a mini economic boom. “The Boris Bounce Begins,” Jacob Rees-Mogg, the Leader of the House of Commons, tweeted on 18 February after it was confirmed that average real wages had finally exceeded their 2008 level. They would not do so for long.

If the Conservatives were unprepared for a traditional cyclical downturn, they were still less prepared for what followed. Within a few months, the UK was in the grip of the coronavirus pandemic and plunged into the worst economic crisis since the Great Depression. The 25 per cent fall in GDP between February and April returned the economy to the size it had been in mid-2002, when Tony Blair was prime minister, Iain Duncan Smith was the leader of the opposition and Barack Obama was yet to be elected to the US Senate.

The recession suffered by the UK was the worst of any G7 member state and of any advanced economy except Spain. After years of ultra-low unemployment, the UK suffered a record 314,000 redundancies in the three months to September (with a total of 782,000 since March). The budget deficit, which the Conservatives once vowed to eliminate, is forecast by the Office for Budget Responsibility (OBR) to reach £394bn by the end of the year, its highest level since the Second World War. The national debt (£2.1trn) has risen above 100 per cent of GDP for the first time since 1963. Why was the UK hit so hard? And what does the pandemic mean for its future economic model?

In November 2016, Rishi Sunak, a committed Brexiteer, wrote in a pamphlet for the Thatcherite think tank the Centre for Policy Studies, “Upon leaving the EU, Britain will find itself with more opportunities for economic innovation than at any time in almost 50 years.” Sunak was proved broadly correct but not for the reasons he thought. Having replaced Sajid Javid as Chancellor on 13 February, because he was considered by Dominic Cummings and others to be more compliant than the incumbent, the task of shielding the economy during the worst pandemic in 100 years fell to him. Confronted by the effects of Covid-19, Sunak embraced the mantra of Gordon Brown, when he was prime minister during the 2008 financial crisis, and Mario Draghi, the former president of the European Central Bank, vowing to do “whatever it takes”.

Sunak was initially true to his word. Through the widely praised Job Retention Scheme, the state undertook to pay 80 per cent of furloughed workers’ wages (up to a maximum of £2,500 a month). The Chancellor also temporarily increased the standard Universal Credit allowance by £1,000 a year, taking unemployment support to its highest ever real-terms level. Next to the indolent and often absent Boris Johnson, who presided over a late lockdown, Sunak appeared a model of clarity. Len McCluskey, the general secretary of Unite, was among the Chancellor’s unlikely cheerleaders. “Rishi Sunak’s wage support measures are a historic first for this country, but are bold and very much necessary,” he said.

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The Chancellor’s interventions helped limit the scale of the economic shock but they could not prevent it. In August, it was confirmed that the UK had suffered the worst recession of any G7 country, having already recorded the highest number of excess deaths in Europe during the first wave of the virus. The juxtaposition of the two was no coincidence: by causing a surge in deaths, the late lockdown helped destroy economic confidence.

Many of the stringent measures that were belatedly imposed by the Johnson government endured for longer than in other European countries because the virus had already spread so widely. As Devi Sridhar, a professor and the chair of global public health at the University of Edinburgh, recently told me: “The [states] that went in hard, dealt with their public health problem and then released had a better economic recovery.”

It was the severity of the UK recession that prompted the rush to “reopen” the economy in the summer. Workers were implored to return to the office or face redundancy. Sunak, who had become the country’s most popular politician, launched Eat Out to Help Out, which offered diners a discount of up to £10 per head on Mondays, Tuesdays and Wednesdays in August. But he dismissed demands for the furlough programme to be extended beyond 31 October and cut the wage scheme’s subsidy from 80 per cent to 60 per cent. One could have been forgiven for assuming, in Johnson’s words, that Covid-19 had been “sent packing”. It had not.

[See also: Leader: Reimagine the high street]

Throughout the summer, epidemiologists consistently warned of the threat of a second wave of the virus in the autumn. In an interview with the New Statesman in July, Neil Ferguson, the Imperial College epidemiologist whose modelling had panicked the government into changing policy in March, and a Sage member before his resignation, said of the planned reopening of schools: “All our modelling suggests that this will lead to an increase in transmission and the [reproduction rate] going above R-1.”

By 22 September, faced with a recrudescence of the virus, the government again ordered workers to work from home if they were able to do so. As new local lockdowns were imposed across the north of England and the Midlands, the government’s public health and economic policies were misaligned: new restrictions were brought forward as state support was rolled back.

Only on 9 October did Sunak announce that the furlough scheme would continue for workers whose firms were forced by law to close (with a 67 per cent wage subsidy, up to £2,100 a month). On 31 October – the day the programme was due to end – Sunak responded to a second national lockdown in England by restoring the original 80 per cent subsidy and, on 5 November, extending furlough until March 2021. This slow motion capitulation came at a cost. “The timing of redundancies coming through very fast as we moved into the autumn is to do with the planning around the Job Retention Scheme and the short notice of it being retained,” Torsten Bell, the chief executive of the Resolution Foundation, told me.

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In a speech in July 2015, two months after he was elected to parliament, Sunak said of George Osborne’s promise of a budget surplus: “Britain will live within its means. No more irresponsible borrowing. No more spiralling debt at the taxpayer’s expense. No more passing the debt to the next generation.” In his Conservative conference speech on 5 October of this year, Sunak elevated balancing the books to “a sacred responsibility”. It was this superstitious fear of government borrowing – even with interest rates at record lows – that drove his initial reluctance to extend the furlough scheme.

In 2010, heedless of the threat of a double-dip recession, Osborne imposed austerity on the United Kingdom. In 2020, heedless of the threat of a second coronavirus wave, Sunak similarly withdrew economic support. And on 25 November, with eerie symmetry, Sunak used the spending review to announce the return of the public sector pay freeze imposed by Osborne a decade ago. Though average real earnings in the public sector are 1.5 per cent lower than in 2010, only NHS workers and the lowest paid were spared.

The loose talk of a “V-shaped” economic recovery that dominated much of the summer’s political conversation has dissipated. Though GDP rose by a record 15.5 per cent in the third quarter of 2020, the economy remains 9.7 per cent smaller than it was before the Covid crisis. Following the second national lockdown in England, forecasters expect the UK economy to shrink once more.

The consolation for Britain is the advance towards a Covid-19 vaccine, or vaccines – perhaps the most potent stimulus. Once the economy truly reopens, sectors such as hospitality, leisure and travel should rapidly recover. Affluent consumers who have saved during the pandemic – household savings rose by £100bn in the first six months of this year – will rush to spend as animal spirits are unlocked.

“The history of pandemics shows that people want to go out afterwards,” said Torsten Bell. “That’s why the Twenties were called the ‘Roaring Twenties’, with new dances like the Charleston invented. The hedonism was in part a reaction to coming out of the Spanish flu pandemic.”

A renewed hedonism, or exuberance of spirits, will not compensate for the original economic shock, however. The OBR forecasts that the economy will be 3 per cent smaller in 2025 than previously expected. Just as coronavirus sufferers report enduring symptoms, so the UK will suffer a form of long economic Covid.

The 2019 Conservative manifesto vowed to “level up” the poorer regions of the UK, while simultaneously avoiding major tax rises and maintaining “strict limits on borrowing”. It seemed like an unrealistic promise even then. And Covid-19 has rendered the have-cake-and-eat-it economics favoured by Johnson and his enablers unviable. In order to meet their spending promises, the Conservatives will be forced either to relinquish their fiscal hawkishness – as the US Republicans have done – or raise taxes.

Sunak has already annexed several policies from Labour’s doomed 2019 manifesto: the creation of a national infrastructure bank, the establishment of a Treasury HQ in the north of England, and the rewriting of the department’s investment rules to end a pro-southern bias. He may yet raise corporation tax, as John McDonnell would have done, from 19 per cent to 24 per cent, and tax capital gains at the same rate as income.

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The pandemic, combined with Brexit, has intensified the UK’s economic identity crisis. Its present model is a strange fusion of social-democratic welfarism (the NHS, the second highest spending on family benefits in the OECD), neoliberalism (market-driven globalisation, privatised utilities, an ultra-flexible labour market) and, now, populist Keynesianism.

Rather than Brexit heralding a new economic order, as was predicted by some on the Tory benches, the UK is more likely to muddle through, as it often does. In common with other Western states, the country that it increasingly resembles is Japan, which has anaemic growth, high national debt and an ageing population. Whatever the democratic justification for Brexit, the notion that it will open the way for “national revival” is a consoling delusion.

It would be a mistake to speak of Covid-19 ravaging an otherwise healthy economy. For too many people, the pandemic merely felt like a new chapter in an unending crisis. Owing to welfare cuts, the poorest tenth of households in the UK were already no better off in 2018-19 than they were in 2001-02. Low levels of unemployment have long hidden the problem of underemployment: a lack of adequate full-time or good, secure, well-paid jobs. Covid-19 has interacted with social deprivation to lethal effect.

The UK has suffered for not “building back better” from the 2008 financial crisis and from the free-market shock therapy of the 1980s. Its economy is characterised by a lack of investment and exports, antiquated infrastructure and a public realm degraded by austerity. After the worst pandemic in a century, building back better has only become harder.