(Bloomberg) — Chancellor of the Exchequer Jeremy Hunt laid bare a bleak new reality for the UK economy on Thursday, one plagued by weak growth and rising taxes for years to come.
Most Read from Bloomberg
Pinned in by a toxic combination of recession, investor skepticism and the sharpest squeeze in living standards since records began 66 years ago, Hunt pieced together £55 billion ($65 billion) of tax hikes and spending cuts in a bid to stabilize public finances.
But he delayed the brunt of austerity for two years in a bid to lend the troubled economy — and Prime Minister Rishi Sunak’s ruling Conservatives — some support.
The measures announced to a subdued House of Commons still included borrowing an extra £300 billion over the next five years, which combined with rocketing interest rates, will have dramatic consequences.
This year alone, borrowing costs on the nation’s debt will run to £120 billion. That’s 5% of gross domestic product and 12% of government receipts, a burden not seen since statistics began in 1956. It also exceeds the level of government department spending on everything except the National Health Service.
Effectively, higher rates have added an extra bill to the nation’s £2.5 trillion debt pile, which Britons will have to cover.
“We have been living in a false paradise for many years,” said David Miles, head of economic forecasting at the Office for Budget Responsibility — the independent fiscal watchdog. “Until recently, people were willing to lend to the British government, and other governments, and lose 2% a year. The new reality is it will be more expensive for governments to borrow.”
Hunt sought to place the blame for the UK’s ills on “Putin’s war in Ukraine” and “unprecedented global headwinds,” which have helped drive inflation to a 41-year high and forced the Bank of England to boost rates to 3%.
What Bloomberg Economics Says…
“The recession is likely to be nasty and Hunt has, rightly in our view, made use of the wiggle room afforded by his and Prime Minister Rishi Sunak’s perceived fiscal credibility.Our fear was that Hunt would feel compelled to frontload fiscal consolidation, amplifying the misery caused by the energy crisis. Instead, he extended energy support and provided extra funding for health and education.”
— Jamie Rush and Dan Hanson
Click here for the full insight
Yet OBR forecasts show the structural change in the public finances driven by debt servicing remains in the fiscal year 2027-28, when inflation and growth are expected to have returned to more normal levels.
“Not just the scale, but the speed at which higher interest rates have pushed up costs should be a warning to future chancellors,” said OBR Chairman Richard Hughes.
Former Chancellor George Osborne feared precisely this when he embarked on an unprecedented round of austerity in 2010, that letting debt run too high would punish the country when interest rates eventually rose after the financial crisis. Sunak echoed those concerns when he was chancellor.
The politics facing Osborne, who frequently blamed the previous Labour government for the state of the nation, were very different to the challenge facing Hunt and the ruling party now.
Even as Sunak’s Tories try to duck responsibility, they’re undermined by the fact that Hunt’s package is in part paying for the economic turmoil of Liz Truss’s seven weeks in office.
Having reversed her £45 billion of unfunded tax cuts, Hunt’s plan means there has been a £100 billion swing in policy measures in less than two months — under the same Conservative party.
Languishing 20 points behind the Labour opposition in the polls, some Tory MPs worry the dire economic picture presented by Hunt means they have little chance of turning their fortunes around before the next general election, due in just over two years at the latest.
Their fears are well founded, given voters typically don’t reward governments that leave them worse off.
Under Hunt’s plan, the tax burden on Britons is set to soar to 37.1% of GDP, the highest level since World War II.
Labour’s Rachel Reeves, who shadows Hunt, was quick to declare the Tories had surrendered their traditional role as the guardians of economic prudence, yet she sensed the delayed pain was an election “trap” for her party.
Households are set to suffer a record 7% slump in disposable income over the two years in inflation-adjusted terms, wiping out eight years of growth. They will still not have reached pre-pandemic levels in the fiscal year 2027-28.
“The sharp and sustained downturn in people’s living standards will now define the rest of the 2020s,” Matt Goodwin, professor of politics at the University of Kent, said on Substack. “The roaring twenties,” predicted by some economists after the pandemic, “are rapidly turning into the ruined twenties,” he said.
Hunt did try to shield poorer Britons from the budget fallout, while helping them with the cost of living. What he called a “balanced approach” imposed tax rises on wealthy households and those business benefiting from high energy prices. At the same time, the national living wage will rise, while pension and welfare payments will increase in line with inflation.
Even so, the hit to households — despite a total of £100 billion of support in energy bill subsidies and grants — will deepen a recession forecast to last until the end of 2023, causing output to contract 2% and 500,000 jobs to be lost.
Were it not for the measures to protect households, the economy would have shrunk 3%, the OBR said.
Yet Hunt’s decision to delay the onset of real austerity until 2025 had more than a whiff of politics, and could yet undermine his primary goal to reassure investors that UK finances are stable.
The difficult decisions on cuts to public services were effectively delayed until after the election, due no later than January 2025. Hunt ultimately plans to take £36 billion from government spending by 2027-8.
Some of the measures look politically difficult, if not impossible, such as a 23% increase in fuel duty due to kick in from March. That was included in the OBR forecast but not mentioned by Hunt in his Commons statement. The issue is toxic among many Tory MPs.
Chris Sanger, UK tax policy leader at accountancy firm EY, called it a “manyana budget,” while the OBR’s Hughes questioned whether Hunt’s promises would ultimately be kept.
“Delaying all of the difficult decisions until after the next general election does cast doubt on the credibility of these plans,” said Paul Johnson, director for the Institute for Fiscal Studies. “The tight spending plans post-2025, in particular, may stretch credulity.”
–With assistance from Andrew Atkinson.
Most Read from Bloomberg Businessweek
©2022 Bloomberg L.P.
