Above: Chancellor Hnut and Prime Minister Sunak. Image: Gov.uk
UK Chancellor Jeremy Hunt will deepen the looming recession in the UK with tax hikes and spending cuts he is due to announce next week, according to new research.
Oxford Economics, the research and advisory provider, said next week’s autumn statement could signal a dramatic shift in UK fiscal policy from too loose to too tight.
“In our view, a shift to too tight a policy would deepen the recession the UK is likely to experience in 2023,” said Andrew Goodwin, chief UK economist at Oxford Economics.
The call comes in the day the ONS reported the UK economy shrank 0.6% in September.
The data confirms that a potentially prolonged downturn is underway; the Bank of England warned in October that this decline could last up to eight quarters.
Most of the economists we follow are also predicting a UK recession in 2023.
However, the breadth and depth of this recession is a matter of debate.
Much will depend on the decisions taken by the government of Rishi Sunak, which stabilized the bond markets by re-engaging in a responsible fiscal policy following the rise in volatility that followed the “mini budget” of his predecessor, Liz Truss. .
A commitment to balance the UK books by reducing debt by the third year of the forecast horizon is something markets have welcomed, mortgage rates have come down and the pound has rallied.
But it also comes at a cost: tight fiscal policy is a drag on growth and, in the longer term, this could imply continued pound underperformance and sticky mortgage rates.
After all, it is growth that increases revenue and tax levies from the treasury. Hunt’s proposal to find £55bn, by cutting spending and raising taxes, presents a cost to business activity and consumer spending.
The Chancellor will also reveal the latest economic forecasts from the Independent Office for Budget Responsibility, which will help decide the scale of tax hikes and spending cuts needed.
“But there is so much uncertainty around so many aspects of the OBR forecast that we think it would be a mistake if the government were to tailor its policy closely to these estimates,” Goodwin said.
Oxford Economics says it has been difficult for authorities to assess the economy’s performance due to the pandemic, meaning significant revisions are likely at later dates.
“The lesson from this year’s Blue Book revisions is that historical data can be heavily revised, especially during a pandemic. As it stands, with GDP below its pre-pandemic level but an unprecedentedly tight labor market, the data is difficult to reconcile,” says Goodwin.
Oxford Economics expects the Bank of England to raise interest rates to a high of 4.0%, implying a lower debt interest bill over the next few years.
“Our forecast implies that only around half of the envisaged consolidation of £55bn would be needed to put the debt-to-GDP ratio on a downward path in 2027-2028,” says Goodwin.
Media reports suggest Hunt will seek to find savings to the tune of £55billion to meet the country’s fiscal rule which requires debt to come down by the third year of the budget forecast.
“A consolidation of £55bn, or 1.8% of 2027-2028 GDP, is significant in the context of an economy with weak trend growth of less than 1.5% a year,” Goodwin says.
“The current global context may make it even more difficult to execute a successful fiscal adjustment,” he adds.
But what choices does the government have? He will be keen to avoid the market backlash that followed Truss’ ill-fated budget, which sent bond yields soaring, raising the cost of funding across the economy and triggering a fall in the pound.
However, Oxford Economics thinks the markets would give the government the benefit of the doubt.
“The new administration has demonstrated that it understands the concerns of the markets in a way that the Truss regime did not. term is appropriate,” says Goodwin.