Skip to main content

Hello. It looks like you’re using an ad blocker that may prevent our website from working properly. To receive the best experience possible, please make sure any ad blockers are switched off, or add to your trusted sites, and refresh the page.

If you have any questions or need help you can email us.

Britain’s self-harm recession

The pandemic and Ukraine have left the world’s finances on the brink. But predictions for Britain are worse than most. Why?

Photomontage: TNE

The scale of the shock the world’s economy is experiencing is hard to comprehend. When Russia attacked Ukraine, it attacked the world’s breadbasket – one that before the invasion was exporting 12% of the planet’s wheat, 15% of its corn and half of its sunflower oil. As the latest inflation chart from the UN’s Food and Agriculture Organization makes clear, the effects of the war have been devastating.

But it’s not just wheat. Global oil and gas energy prices have soared – gas in Europe by 111%. Raw materials, many of which come from Russia and Ukraine, have rocketed in price. Zinc (23%), nickel (51%) and aluminium (37.5%) have risen, fertiliser is up 70% and many others are rising quickly.

Food shortages and price rises will hit the developing world hardest as the world economy heads for at least a period of stagflation, with low growth and higher inflation. The whole world will probably avoid sinking into recession, but the triple whammy of a falling pound, Brexit and higher raw material costs mean all the signs are that one of the worst-affected countries is going to be the UK.

Whether the US can avoid a recession is not clear, but the OECD is forecasting it will, with growth of more than 1% next year. The truly amazing fact, though, is that France, Germany and the eurozone are all expected to keep growing, by over 1%. The very countries that are at the end of that Russian gas pipeline and should therefore be facing a far worse future than the UK are going to do far better.

Here, the Bank of England is predicting a recession by the end of the year. Its predictions of economic growth in the UK in coming years make for grim reading – none next year, growth of just 0.2% in 2024 and only 0.7% in 2025. And the Bank is expecting higher unemployment, too; it is due to rise to 5.5% by 2025 from 3.8% now.

This is scraping along the bottom, and it is no surprise that the OECD thinks growth in the UK will be the lowest in the G20 next year, except for Russia. Only being able to grow faster than a nation in the middle of a war that is facing, as a result, almost universal international sanctions takes some doing. But it looks as if the UK is going to manage it comfortably.

Unfortunately, the classical reaction to higher inflation is to increase interest rates, to try to squeeze spending, slow down growth and make price rises more difficult to pass on. This is what the Bank of England is doing, but it is also what all the other central banks are doing as well. The UK, the eurozone and the US are standing on the brakes and all at the same time. In America, the Federal Reserve expects to keep increasing interest rates to bring inflation down from its 40-year high.

Rates are expected to reach 3.4% by the end of the year, which the Fed knows full well will slow down the economy and most probably lead to a rise in unemployment. It tells you a lot that the chair of the Fed, Jerome Powell, had to make it clear after the last interest-rate meeting that “We don’t seek to put people out of work,” and he was “not trying to induce a recession”.

But why should the UK be the worst affected? We are free of the shackles of the EU, we are “Global Britain”, we can cut red tape and cut our own trade deals; the world is our oyster. Not only that but we all remember that leaving the EU was going to save us £350m a week – a figure Boris Johnson claimed last year was an “underestimate”. And there are supposed to be all those Brexit gains that were going to boost the British economy. Surely that all means the British government should have more than enough money to ride out the tough times. Doesn’t it?

Yet, with the British economy now on the brink of a recession, there doesn’t seem to be any money left. With huge rises in inflation, slowing growth and no respite in sight, the UK government is faced by demands from its right wing to cut taxes when it has barely enough to meet current needs.

We have the highest tax rate since the late 1940s and the UK government is still borrowing hundreds of billions a year to balance its books. We have also had over a decade of austerity, with spending slashed to improve the efficiency of the state and yet there is no windfall, nothing.

National Insurance payments have soared, income tax allowances are frozen – which is a stealth tax on millions – and corporation tax is on the rise. Nurses, doctors, other healthcare professionals, social workers and teachers all face pay rises massively lower than inflation. The health secretary, Sajid Javid, said recently there was no more money for the NHS. This announcement came just as the National Insurance rises that the chancellor, Rishi Sunak, said would benefit the NHS hit pay packets across the country.

Meanwhile, the courts system is grinding to a halt, NHS waiting lists are terrifying, the ambulance service is on its knees and the gap between spending on state school pupils and private ones is ever wider.

All that and we are heading towards a deep recession, having only just emerged from the deepest one ever. Fuel and energy prices are eye-wateringly painful; food is soaring in price, people are cutting back on non-essential spending across the country and the Bank of England is putting up interest rates. Business investment is falling as companies hoard their cash. All this points to a deep and damaging downturn.

Governments should be entering recessions after several years of above-trend growth, with room for manoeuvre and the ability to weather the international economic storms that events like the invasion of Ukraine create. But we aren’t. So what is going wrong with the British economy?

According to Lord David Frost, Brexit is working. Perhaps he meant “Brexit is working its way through the government’s revenues”. The Office for Budget Responsibility (OBR) has always stuck by its calculations (which many others think are too optimistic) that Brexit will cause a permanent loss to the British economy of 4% of its GDP, or about £100bn a year. The Treasury would normally expect to take 40% of that as tax, so Brexit on its own is costing the government £40bn a year, every year.

The government is planning to borrow £99bn this year. Without Brexit, then, it could have almost halved that total. Or it could have used £40bn a year to take 6p off the basic rate of taxation, taking it down to just 14%. Or it could have increased the NHS’s budget by 21%, permanently.

That is the cost of Brexit. But Brexit is not the only problem the government faces. Covid was a huge hit to the government finances, but a temporary one from which the economy and the tax take should bounce back. Except that it has had some permanent effects, most notably on the workforce.

The OBR had done work on this and discovered that labour market participation fell markedly over the course of the pandemic – lots of people just stopped working and decided to do something else instead. Over 18 months, the number of people working fell by 527,000 and based on the trend before the pandemic the “shortfall in the labour force is closer to 1.2 million”.

Some of that is because of Brexit – the UK is a less attractive and more difficult place to work for many Europeans – and some is because of Long Covid and an ageing population. But even so, well over 500,000 extra people threw in the towel and decided that 9-5 was just not worth it any more.

This means that 500,000 fewer people than expected are working and paying tax, a huge hit to the Treasury.

The ageing population is a longer-term problem for the government’s finances. Pensioners don’t just take up their state pensions, they start using up more government resources in other ways. It is them, rather than young healthy people, who most need the NHS. As the Baby Boomers keep retiring, the strain on our coffers and our services is going to get worse in the coming decades. But for a start, the inevitable demographic shift is likely to cost the UK government an extra 2% of GDP by 2030.

Not only that, but recent changes to the taxes on your wages have concentrated on increasing National Insurance. And whenever there is a chance for a tax cut, it is a cut to income tax.

Why should that be? Because pensioners don’t pay NI, but they do pay income tax. The government is shifting the burden from the retired who tend to vote and vote Conservative, on to the working young, who don’t vote as much and, when they do, tend to vote Labour.

In the past it has been possible to keep up spending on health and care by taking money from other areas – the defence budget has been squeezed for years and is now just 2.12% of GDP (during the 1980s it was 4%). But that is not a trick you can play for ever, and it has pretty much run its course.

Where there is growth, it is terrible. We have suffered two once-in-a-lifetime economic shocks in the last 12 years. First the credit crunch, at the time the deepest recession on record, then Covid; now the deepest recession on record. In between, we have had nine years of slower-than-expected growth. Overall, even if you ignore the recessions as one-offs that the economy bounced back from, the lower growth between those two events cost the British economy more than 10% of its expected growth.

As Carl Emmerson, deputy director of the Institute for Fiscal Studies, told me: “Since 2008, we have had abysmal growth. If we had more productivity, we’d have higher wages, more tax revenues, we’d be able to spend more on public services and all those difficult choices would be easier to make. The personal data is even more shocking. If growth had continued at the same rate after the credit crunch as before, average wages now would be £11,000 a year higher, with a consequent bonanza for the taxman. This is the equivalent of losing almost the entire budget of the NHS.

Instead, the money has had to be found from a smaller pot. This is the direct result of the Conservative government’s abysmal economic record.

A shocking lack of growth has been accompanied by low investment and a government “reform” of the apprenticeship system that has decimated training, leaving skills shortages and a pathetic record on productivity. Ministers boast about what they are doing to boost productivity all the time; the evidence shows they have failed miserably.

Then, of course, there is the strange story of the civil service. After years of cuts and rounds of redundancies, it is still larger than it was. Covid has been a big factor, but look at the chart from the Institute of Government. Civil service numbers reached their nadir in 2016, when they were at the lowest level since 1945, then they began to rise, especially in departments like international trade, business, Defra and the Cabinet Office.

Apparently, all those Brussels bureaucrats were doing something useful after all, because we have spent a fortune replacing them with our own mandarins. Around 50,000 of them were recruited between the Brexit referendum and the start of Covid.

The European Commission manages with just 32,000 Eurocrats. But all those border controls, trade negotiations, agricultural policies, industrial strategies, and free ports have to be set up and run by somebody. As Emmerson points out “If you take back control from Brussels, you actually have to control those responsibilities.”

To make matters even worse, the pound has been a much weaker currency since the referendum and has been getting even worse this year.

The collapse in the pound’s value means the cost of raw materials, especially oil, which is priced in dollars, has soared in the UK. A chart from the House of Commons library of crude oil prices in sterling shows it reached a record high earlier this year. This affects everything; from the cost of petrol at the forecourt to the price of bread in the shops.

Why? Energy is a massive component of the price of almost every product. High energy prices, plus the weakness of sterling, therefore suck inflation into the UK economy.

But that is not the only cause of the UK’s rising inflation.

Look at the chart from the Peterson Institute on inflation, which shows that the UK has a much higher level of inflation than our European neighbours. Yet all have suffered identical economic shocks from the invasion of Ukraine and increases in energy prices. The explanation is damning, as the accompanying analysis makes clear: “Brexit has amplified the inflationary impact of a simultaneous common shock.”

The institute found that “by ending the free movement of EU migrant workers to the UK, the UK government has unilaterally cut the labour supply and its elasticity. By adding new tariff and non-tariff trade barriers, the British government has slashed purchasing power and available imports, and it has created inflation during the staggered implementation of the Brexit deal.”

As Adam Posen, the head of the Peterson Institute and a former member of the Bank of England’s Monetary Policy Committee, has been putting it for years – “the UK has declared a trade war on itself”.

The latest research by the LSE and the Resolution Foundation drives home the point. It found that the UK had experienced a sharp decline in trade openness. Far from “Global Britain” opening the country up to the world, Brexit has had exactly the opposite effect. This is making the UK less competitive and, in turn, hitting productivity and wages.

Doing Brexit at any time is stupid; doing it when the world’s economic system has been hit by Covid, the related supply chain crisis and now the shock of a massive rise in commodity prices is insane.

There are still Brexit loyalists who claim there has been no economic damage or adverse consequences from Brexit at all. Lord Frost, who negotiated the deal, told the UK in a Changing Europe conference last week that everything was fine and that their economic analysis was deeply flawed. Needless to say, the criticism of some of the country’s top economists by a former diplomat with a degree in Medieval French was neither impressive nor even economically literate. But the ability of a certain kind of Brexiteer to deny the evidence of their own eyes and ears is a wonder to behold.

The Conservatives tell us not to have nightmares. They have promised there will be cake before the next election, with Sunak already including a cut in income tax in his future projections.

The money will be there for a pre-election bribe. Or at least it should be. The chancellor says he has set aside funds for a tax cut, and has a war chest of around £30bn, which should become available in the next few years. But even that is far from certain to be enough. If inflation continues to soar and fuel prices stay high, the cost-of-living crisis will continue well into next year.

Is Sunak seriously going to stand up and deliver a spring statement in 2023 that reverses cuts to fuel duty and leaves families to struggle with energy bills, but also claim he has to save enough money for a pre-election tax cut? The pressures on him to help out again are going to be intense.

So, what does the future hold? Just a few months ago, at the time of the spring statement, the OBR was basing its analysis of the state of the country’s economy and the government’s finances on the basis of growth of around 2% a year for the next four years. That calculation is now in the dustbin of history and the OBR and the Treasury will be burning the midnight oil (fuel prices permitting) trying to work out what these much lower growth figures mean in cold hard cash. Remember, lower or non-existent growth means much lower revenues for the Treasury.

Meanwhile, we have higher inflation – it is now expected to peak at more than 10%. That means higher spending on everything, from food for prisoners to pens for pen pushers. Higher interest rates will push up the cost of government borrowing. Higher unemployment will mean less income tax and more unemployment benefits.

The only good news is that revenue from energy sales, petrol, electricity and gas are all soaring. But that is actually taking money out of people’s pockets and causing the recession in the first place; so it is not really a great help.

The chancellor was hoping that a period of sustained growth would bail him out. Unfortunately, the last period of sustained economic growth in the British economy ended in 2008. The British economy just does not have the growth potential of a country like America, nor the advantages of being a single market like France and Germany, and none of our competitors has the chain and ball of Brexit to drag around.

Our currency is weaker, our workforce smaller and less flexible, our trade more difficult and the population is ageing. Compared with all our major economic rivals our productivity is dire and the gap is widening. It is no coincidence that the UK also took the biggest economic hit from Covid as well; years of economic mismanagement will do that. The UK’s long-term potential growth rate seems to have been almost halved since 2008, making it more vulnerable to shocks and easier to push into a recession.

All this means the coming recession is going to be much worse in the UK than it needs to be, and worse than in almost any other developed country. We may be in summer, but it is about to get cold outside.

Hello. It looks like you’re using an ad blocker that may prevent our website from working properly. To receive the best experience possible, please make sure any ad blockers are switched off, or add to your trusted sites, and refresh the page.

If you have any questions or need help you can email us.

See inside the What will it take to get Johnson out of No 10? edition

Anti-government protesters outside parliament in June 2022. Photo: Martin Pope/Getty

Only a progressive alliance can rid us of these morally bankrupt liars

A progressive alliance that decides to win together rather than being destroyed separately could, finally, evict Boris Johnson from Downing Street

Boris Johnson with Volodymyr Zelensky in Kyiv on April 9. Photo: Ukrainian presidency/
Anadolu Agency

The last refuge

Boris Johnson has sought refuge in Ukraine. But, Volodymyr Zelensky knows an act when he sees one