U.K. Faces Worst Slump in 300 Years as Sunak Set to Cut Spending

Sunak announced billions of pounds for new infrastructure projects to boost jobs, and support for low-paid workers.

27 Nov 2020, 03:35 AM IST

U.K. Faces Worst Slump in 300 Years as Sunak Set to Cut Spending

A fisherman sits on the dockside near fishing trawlers docked in the harbor in Port-en-Bessin, France. (Photographer: Cyril Marcilhacy/Bloomberg)

(Bloomberg) -- Chancellor of the Exchequer Rishi Sunak sought to balance more jobs support with controversial spending cuts to help pay back the U.K.’s huge pandemic debts, as he warned the country is facing an “economic emergency.”

With unemployment expected to reach 7.5% next year, Sunak announced billions of pounds for infrastructure to boost jobs and a wage rise for the lowest-paid workers. But he cut funding for policies he said were hard to “justify” -- such as public sector pay increases and overseas aid.

The hit to the foreign development budget provoked an immediate backlash, with the Church of England, senior Tories and lobbyists all condemning the cut, and one junior minister quitting Boris Johnson’s government in protest. The chancellor said he had little choice.

“Our health emergency is not yet over and our economic emergency has only just begun,” Sunak told Parliament when he outlined his spending review Wednesday. “Our immediate priority is to protect people’s lives and livelihoods.”

Sunak’s statement to Parliament marked the start of Britain’s painful reckoning with the financial consequences of the pandemic, with some tough decisions on how to address a ballooning budget deficit. Government forecasts put the U.K. on course for its deepest recession since the Great Frost of 1709.

Sunak’s Spending Review - Key Points
Unemployment to peak in the second quarter of next year at 7.5%, or around 2.6 million, before falling for the rest of the period The economy is expected to contract 11.3% this year, the biggest drop in more than three centuries That hit won’t be recovered until late 2022, while long-term scarring means the economy will be around 3% smaller in 2025 than expected in March The U.K. is forecast to borrow a total of 394 billion pounds ($526 billion) this year, equivalent to 19% of GDP, and the highest recorded level in peacetime Overseas aid spending will be cut to 0.5% of national income from 0.7% Pay rises for public sector workers in non-health roles will be paused The National Living Wage will increase to 8.91 pounds an hour Spending on “economic infrastructure” such as roads, railways and broadband worth 27 billion pounds in 2021-22 to support the recovery Local authorities will have more flexibility to raise spending power by 4.5%, with “extra flexibility” to set council tax Funding to tackle the virus and its effects totaling 55 billion pounds next year

Sunak’s Spending Review - Key Points

Unemployment to peak in the second quarter of next year at 7.5%, or around 2.6 million, before falling for the rest of the period
The economy is expected to contract 11.3% this year, the biggest drop in more than three centuries
That hit won’t be recovered until late 2022, while long-term scarring means the economy will be around 3% smaller in 2025 than expected in March
The U.K. is forecast to borrow a total of 394 billion pounds ($526 billion) this year, equivalent to 19% of GDP, and the highest recorded level in peacetime
Overseas aid spending will be cut to 0.5% of national income from 0.7%
Pay rises for public sector workers in non-health roles will be paused
The National Living Wage will increase to 8.91 pounds an hour
Spending on “economic infrastructure” such as roads, railways and broadband worth 27 billion pounds in 2021-22 to support the recovery
Local authorities will have more flexibility to raise spending power by 4.5%, with “extra flexibility” to set council tax
Funding to tackle the virus and its effects totaling 55 billion pounds next year

With renewed lockdowns threatening further economic damage, the chancellor focused on support for jobs and the unemployed, plowing tens of billions of pounds into infrastructure spending, and ensuring the health care system can cope with a resurgent wave of infections.

Sunak’s choices set the tone for the ruling Conservative Party’s approach to the fiscal legacy of the coronavirus.

One of the most noteworthy announcements was the biggest uptick in defense spending in three decades: a four-year, 24 billion-pound investment in the country’s armed forces that pleased traditional Conservatives. The chancellor also confirmed a cut in the U.K.’s foreign aid budget to 0.5% of national income, breaking a promise to spend 0.7%.

The drop in overseas development spending dismayed other Tories, who warned it will hamper renewed efforts to display Britain’s global role just as Brexit takes effect. Junior foreign office minister Liz Sugg resigned, telling the prime minister it was “fundamentally wrong” to cut aid spending. “This promise should be kept in the tough times as well as the good,” Sugg said in her resignation letter to Johnson.

Former prime minister David Cameron said reducing the aid budget was “a very sad moment” while the Archbishop of Canterbury Justin Welby, spiritual leader of 85 million Anglican Christians around the world, urged members of Parliament to block the cut.

What Bloomberg Economics Says
“Rather than allowing the deficit to narrow gradually and of its own accord, we now see a significant risk of more tightening in Sunak’s spring budget. If the Chancellor pursues that course, it’s likely to threaten the U.K.’s recovery.”
-- Dan Hanson, economist
For the full report, click here

Sunak said the existing 0.7% aid commitment was “difficult to justify” to the British people. “I have listened with great respect to those who have argued passionately to retain this target,” he said. “But at a time of unprecedented crisis, government must make tough choices.”

Curbs to public sector pay also provoked a backlash. “Earlier this year the chancellor stood on his doorstep and clapped for key workers, today his government institutes a pay freeze for many of them,” Labour’s shadow chancellor, Anneliese Dodds, told Sunak. “The beginning of his speech was that our economic emergency was only just begun. Try telling that to people who’ve been out of work since March.”

U.K. Boosts Debt Sale Plan to $648 Billion to Bolster Economy

A new infrastructure strategy detailed planned projects to deliver on 100 billion pounds of projects pledged over the course of the five-year Parliament that started last December. Sunak also unveiled a new financial institution to help attract private money into such programs.

The chancellor has found himself spending in a way that no Conservative chancellor would easily countenance. Costs totaling 280 billion pounds have been racked up or earmarked to tackle the virus and support jobs and businesses through the crisis in the current fiscal year, Sunak said.

More borrowing will be needed, with the government now planning to issue a record 485.5 billion pounds of bonds in this fiscal year.

The Office for Budget Responsibility forecast that the already dire economic situation will be made worse if the Brexit negotiations end without a deal. In that scenario, unemployment would peak at 8.3%, while the economy wouldn’t reclaim its pre-virus size until well into 2023. The long-term GDP scarring of virus would be 5% rather than 3%, according to the OBR’s latest forecasts, published Wednesday.