The last time a British finance minister unveiled a “budget for growth,” UK financial markets crashed and mortgage rates shot up, threatening to tip an already weak economy into a deep recession. Kwasi Kwarteng was out of office within weeks, to be followed shortly by his boss, former Prime Minister Liz Truss.
UK finance minister Jeremy Hunt will do all he can to avoid the drama that engulfed last September’s “mini” budget when he lays out the government’s spending and tax plans Wednesday. But he will deliver his budget against essentially the same gloomy backdrop: the UK economy is stuck in the doldrums.
The picture has improved a little since Hunt scrapped most of Kwarteng’s disastrous plans for debt-fueled tax cuts and a spending binge. Markets have stabilized, and falling natural gas prices have taken some heat out of inflation, while providing a boost to government finances strained by energy subsidies for households.
But the United Kingdom is the only major economy that the International Monetary Fund forecasts will contract this year; inflation continues to erode pay, worsening a longstanding decline in living standards; supply chains remain fragile; and the country is experiencing the worst wave of strike action in 30 years.
The recent collapse of Silicon Valley Bank could make matters worse, if UK banks respond by extending less credit to households and businesses, weighing on consumer demand and investment spending.
More than 133,000 civil servants are expected to walk out over pay, pensions and job security Wednesday. They will be joined by teachers, transport workers, junior doctors and some BBC journalists.
Hunt could announce a boost to public sector pay to put an end to ongoing strike action, economists say. But the chancellor, who has pledged to reduce ballooning government debt, is otherwise expected to keep a tight rein on spending and avoid significant tax cuts.
“On the bright side, this feels like a relatively normal budget. No pandemic, the mini-budget fiasco fading into blissfully distant memory. But if growth doesn’t start to pick up pretty soon, neither this one nor the next [budget] will contain many goodies,” director at the Institute for Fiscal Studies, Paul Johnson, wrote in The Times Monday.
“A stagnant economy leaves little room for either more spending or less tax.”
Despite a laundry list of challenges facing the UK economy — from Brexit and labor shortages to striking workers and a crumbling public health system — Hunt is expected to reject the “narrative of decline.”
“In the autumn we took difficult decisions to deliver stability and sound money. Today, we deliver the next part of our plan: a budget for growth,” he is expected to say, according to prepared remarks released by the UK Treasury.
“Not just growth from emerging out of a downturn. But long-term, sustainable, healthy growth… all whilst making our country one of the most prosperous in the world.”
Britain does indeed have a growth problem. It is the only G7 economy yet to regain its pre-pandemic size.
Hunt is expected to announce incentives to increase business investment, which has languished since the Brexit referendum in 2016 and hampered economic growth, but is expected to stick to plans to hike corporation tax from 19% to 25%.
The British Chambers of Commerce forecasts that the UK economy won’t return to its pre-pandemic size until the final quarter of 2024; the Bank of England sees full recovery only in 2026.
Brexit is partly to blame. Leaving the European Union has increased import prices, weakened exports, reduced investment and contributed to labor shortages, which are another constraint on growth.
John Springford, deputy director at the Centre for European Reform, estimates that Brexit had cost the UK economy 5.5% of GDP by June 2022.
Catherine L. Mann, a member of the Bank of England’s monetary policy committee, describes Brexit as a “unique” third shock to the UK economy, alongside the pandemic and the war in Ukraine.
“No other country chose to unilaterally impose trade barriers on its closest trading partners,” she said in a speech last month.
There are currently more than 1 million vacancies in the economy, about 300,000 more than before the pandemic, and 21% of the working population is “economically inactive,” according to the Office for National Statistics, meaning they are unemployed and not looking for work.
Alongside Brexit, early retirement and ill health are also major factors.
Hunt will use the budget to announce a raft of measures to get “hundreds of thousands” more people back to work, including more generous childcare benefits, support for people with long-term health conditions and an increase in tax-free pension allowances in the hope that older workers extend their careers.
Staff shortages remain “one of the keenest pain points” for business members of the Institute of Directors.
“We will be looking for action in [the] budget to shift the dial and get a labor market that works better for business,” Kitty Ussher, chief economist at the professional body, said in a statement Tuesday.
Another factor that could weigh on the UK economy in the near term: Silicon Valley Bank.
The collapse of SVB has knocked banking stocks around the world, including in the United Kingdom, where financial services still play an outsized role in the economy. Although the selloff is not expected to cause a broader banking meltdown, it will make lenders more cautious, which could have significant implications, according to Berenberg’s senior economist, Kallum Pickering.
“It is likely that UK financial conditions will remain tighter (or potentially significantly tighter) over coming months than they would have been without the US banking troubles,” Pickering said in a research note Monday. “All else equal, tighter financial conditions will weigh on consumer demand and reduce the availability of credit for investment spending.”
If banks reprice or reduce lending, that may make the UK recession “a touch bigger” than the 1% decline that Capital Economics expects this year, said the firm’s chief UK economist, Paul Dales.
“But as it stands at the moment, it doesn’t look as though a repeat of the global financial crisis is on the cards, during which UK real GDP fell by 6%,” he added.