Chancellor spends like wartime with £335 billion Covid response, but trims back on public services

The Government’s £12,000 per household response to the Covid crisis will send Government spending as a share of the economy towards World War II levels (56 per cent), the Resolution Foundation said today (Wednesday) in response to the Chancellor’s Spending Review.

Despite the Office for Budget Responsibility’s (OBR’s) growth forecasts improving since July, it still expects 2020 to see the weakest year of growth in more than 300 years with the economy contracting 11.3 per cent.

The lasting pandemic impact is forecast to leave our economy permanently 3 per cent smaller, equivalent to £1,400 for every adult in Britain. Economic scarring will in turn do permanent damage to the public finances, increasing borrowing by £57 billion by the middle of the decade.

In the face of these grim forecasts, the Chancellor announced very significant increases in spending to combat the pandemic. Day-to-day departmental spending has increased by an unprecedented 40 per cent this year. Around half (£55 billion) of this year’s Covid departmental spending increase will continue into next year, equivalent to the entire annual schools budget. The Foundation notes that 86 per cent of additional spending this year and next is focused on Covid.

However, the Chancellor does not intend any of these spending increases to be permanent. He chose not to mention in his speech a reduction of £10 billion in planned normal public service spending next year (rising to £13 billion in 2024-25).

While cuts to the aid budget will make up much of that in the short term, the Chancellor’s professed intention to return to spending 0.7 per cent of GDP on aid in future means this will mean tougher times ahead for unprotected areas of public spending, such as local government.

There is no immediate pressure to set out plans for a fiscal consolidation, with the cost of government debt next year set to be £20 billion less than expected. But once the recovery is secured, tax rises – rather than quietly-announced spending cuts – will need to do most of the work. Balancing the current budget in 2024-25 will require around £27 billion of fiscal consolidation.

More positively, the OBR said that the peak in unemployment would be lower and later than previously thought, reaching 7.5 per cent in Q2 2021. This would mean unemployment rising by one million above current levels to reach 2.6 million. This would equal the levels of the financial crisis – but would be below those of the 80s and 90s recessions.

However, an opportunity was missed to protect family finances as the Covid crisis continues. By failing to extend the £20 a week boost to Universal Credit into next year, the Foundation notes that around six million households are set to lose over £1,000 a year – just at the time when the OBR expects unemployment to reach its peak.

Torsten Bell, Chief Executive of the Resolution Foundation, said:

“The backdrop to the Chancellor’s Spending Review is the biggest hit to the UK economy in over three centuries. Despite reasons for optimism about the vaccine-driven economic bounce back in 2021, the economic damage from Covid will last. This will hit household and public finances hard.

“Faced with a grim economic outlook, and an ongoing public health crisis, the Chancellor has rightly chosen to double down on Covid spending, which is set to total around £335 billion over two years. The British state has never seen anything like this outside of World War Two.

“But the Chancellor less noisily began the process of changing his public finances plans for the years ahead, opting to spend up to £13 billion a year less on non-Covid public services than previously planned.

“The idea that there will be no permanent increase in spending post-pandemic is what you might politely call optimistic. It is certain that tax rises will end up playing a bigger part in any real plan to put the public finances on a sustainable footing once the recovery is secured.”