Will Sunak’s emergency budget prevent a UK recession?

This was very much an emergency budget—aimed to inspire confidence in the government's ability to deal with the coronavirus. It also promised a bright new future of (a lot) more spending on infrastructure and extra support for innovation and growth, mostly financed by borrowing.

But the short-term economic and fiscal position is the one most at risk. The health situation has necessitated extra spending and as Chancellor Rishi Sunak emphasised, this budget's focus was “safety and economic stability.” But is what he put aside—an extra £30bn for dealing with the crisis—enough to counter what is inevitably going to be a period of very slow growth in the economy? And will he really be able to fund future years while keeping within his predecessor's fiscal rule of balancing the current budget in two-to-three years' time?

The omens are not good. Survey data at the turn of the year showing an improvement in optimism and a pickup in house prices suggested good growth in Q1. But the data for January out today suggested stagnation rather than growth in the month. And flooding and anxiety over the coronavirus will have affected February and March. So the prospect of contraction this quarter and again in Q2, in other words a technical recession, now appears a real possibility.

In this context, the Office for Budget Responsibility (OBR) forecast drawn before the outbreak took hold, expecting growth of 1.1 per cent this year, now appears very optimistic. In truth, a lot of the output that will be lost in the short term if the virus spreads as expected will never be recovered—particularly on services. And for manufacturing to really pick up one needs strong growth in the world economy again, which may take some time to materialise. So even if there is a bounceback later, zero growth for this year seems the most likely outcome.

Yes, the chancellor will spend a lot of extra money on the NHS. And he has made clear it will be as much as is necessary—in other words, even more if needed. And yes, he has given lots of support to firms, particularly to SMEs, with large business rates relief and other measures which will be running through the year and should be helpful. And for individuals and businesses the extra coordinated monetary expansion, in the form of a 50 basis points cut in interest rates—back to the record low of 0.25 per cent we saw after the shock Brexit referendum result—and measures to help with extra low-cost funding through banks, will also help.

But how things will turn out for millions of firms, as demand drops and working capital issues become critical, is hard to estimate. And despite measures to accelerate payments of benefits and the government taking on the cost of sick pay for a while as people take time off, the fall in demand may still mean failure for firms which are already affected by supply shortages, as many parts of the world close down their own production processes.

Fiscally there is some room for manoeuvre, at least in the short term. And the government can also borrow very cheaply at present as money that flew out of shares in huge quantities is now getting re-invested in bonds, irrespective of concerns about whether fiscal rules are met. The US has cut rates and will inevitably spend more, the EU is probably about to temporarily suspend its own growth and stability pact rules. China is pushing the accelerator too with massive help to its badly hit economy. So are Japan and many others.

But each country is doing its own thing and we have not seen coordinated action of the type that helped deal with the financial crisis. So the overall impact is unclear. How fast world trade and growth recovers will be crucial for many sectors, such as the aviation industry, shipping, hospitality, leisure, retail and large parts of manufacturing. The question is whether demand picks up too slowly for many firms to survive. In this environment, forget about the growth forecast in the budget or meeting any fiscal rules, as they are not worth the paper they are written on and in any event do not cover emergencies such as this.

If growth disappoints, the problem will be whether markets are prepared to lend to an economy that might find it difficult to shake the cost, and where the financing needs for current spending may end up being much higher than the OBR, with limited pre-virus information, has calculated.