Economic shock for UK but rapid recovery likely
2 June 2020: the shock of COVID-19 measures will shrink the UK economy by record levels according to new research, but rays of hope exist for many businesses in the form of a rapid, demand-focussed recovery.
The UK economy could shrink by 8.3% in 2020, the largest decline since 1921, according to the latest assessment from Oxford Economics. The ICAEW research partner predicts that the deficit is likely to reach £290bn this year, equal to 14% of GDP and amounting to the worst decline since World War Two. This also exceeds the previous record drop of 10.2% set in 2009-10.
Unemployment is likely to rise from 4% at the beginning of the year to 7% in Q4, a relatively benign figure given the scale of the crisis, and somewhat dampened by the high take-up of the government’s job-protecting furlough schemes.
Despite this, rays of hope do pierce the economic gloom in the guise of the unusual nature of the recession. Oxford Economics forecasts a strong chance of a rapid recovery given that GDP fell as a direct consequence of a planned, partial economic shutdown, and in theory at least, it should bounce back once activity and demand recover as restrictions are lifted, buoyed by the Bank of England and government help.
Hope for Q2 growth
The report, commissioned by the ICAEW, predicts that the economic uplift should kick in and return to growth in the second half of 2020 if the lockdown continues to be relaxed over the summer.
Some households and private sector companies will have saved cash during the crisis, which could lead to a spike in demand when lockdown eases, particularly with inflation likely to reach zero in the summer.
COVID-19’s impact should be a short, if painfully sharp shock, with much of the damage being quickly repaired as output rises by 7.8% next year. And with low interest rates likely to persist, and gilt yields at historic levels, reducing the deficit is unlikely to be a primary government priority.
Consequences for economic policy and public sentiment could still endure, with post-pandemic government likely to be bigger than before the crisis.
And despite unprecedented government support, downside risks to the economy are high, Oxford Economics said. Recovery could still falter if lockdown is extended, a second wave of coronavirus triggers another lockdown, the long-term economic damage is worse than expected or government support is withdrawn too early. A collapse of UK-EU trade talks could also hamper recovery.
War-time debt levels
The scale of coronavirus support schemes means government borrowing now stands at wartime proportions and could increase total borrowing in 2020-21 by £173bn, or 7.5% of GDP, the report said. Two-fifths of this was money for the job retention scheme.
Michael Izza, ICAEW Chief Executive, said: “While this report sets out clearly the challenges facing the UK economy, particularly a fall in GDP not seen for a century, it does provide some optimism that we will be able to rebound from this short, sharp shock.
“As lockdown measures are eased, we would like to see a strategy designed to promote a sustainable economic recovery beyond the crisis. The phasing out of government schemes will have to be carefully managed to avoid a wave of redundancies and company failures, and to restore business and consumer confidence.
“Without time, space and help for businesses to recover, 2021 will be an exceptionally difficult year, especially if the problems left behind by COVID-19 are compounded by a disorderly end to the EU transition period.”
Meanwhile increased public spending may strengthen the government’s ‘levelling-up’ agenda for the regions, the forecasters suggest focus may shift towards strengthening the resilience of local communities and businesses, and away from purely promoting economic growth in regions.
The report predicts that the current regional picture is likely to persist, with London tipped to be the fastest-growing region in the next five years and the North East the weakest performer. The West Midlands is expected to experience the largest output fall of any region this year but should rebound in 2021.
Diverging fortunes
Different sectors of the economy have faced diverging fortunes during the pandemic, but the largest losses have been in the hospitality, cultural and sporting sectors, as well as education. Even with a strong rebound, output losses could be 25%, Oxford Economics forecast.
The manufacturing sector faces a double whammy, taking hits from the coronavirus crisis and the end of the UK-EU transition period - an impact most likely to be felt in 2023.
Meanwhile, the report predicts that the current regional picture is likely to continue, with London likely to be the fastest-growing region in the next five years and the North East the weakest performer. The West Midlands will most likely experience the largest output fall of any region this year but should rebound in 2021.
Melanie Christie, director, UK Regions, said: “The regional economies are pivotal to the UK recovery post-COVID-19; whilst each area of the country will have its own issues in its key sectors, there is unsurprisingly some commonality around the impact of the predicted decline.
All regions will be undoubtedly hit hard to varying degrees in the months and years ahead, dependent on their reliance on these sectors. The recent announcement, for example, by Rolls Royce will impact the East Midlands heavily, and will no doubt adversely affect a UK-wide supply chain, and there will be more of these announcements in the months to come”.
Dire straits
Richard Spencer, Director, ICAEW Technical Thought Leadership, said the report’s findings “confirm what we know: it is dire out there”.
“What truly matters is what the response will be. It cannot be a return to austerity. Much like the consensus built across the political divide during the Second World War around the Beveridge Report, we know, especially as long-term borrowing rates are incredibly low, that we must build a new consensus across the political divide and across the economy to invest in a better tomorrow and government will have to borrow significantly to achieve that.
“We cannot pursue a debt-free future for the next generation if there is no other future to pass on; there is no inter-generational equity in that,” continued Spencer. “In addition, whilst this report focuses on the UK, the legacy of this crisis must be an international one because the challenges we face are global and they need to address the conditions that have given rise to the coronavirus and COVID-19. The focus has to be on creating prosperity for all and within what nature can afford.”