- Investment Insights
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What is the government doing in response to Covid-19?
The Covid-19 pandemic is likely to negatively impact UK GDP growth in 2020, with measures necessary to limit contagion likely to weigh on both output and consumption in the UK and abroad. In response to the weak outlook for the UK domestic economy, the government has proposed an increase in spending and initiated targeted measures designed to support the economy. These measures include extra funding for the NHS, £1bn of welfare spending to support people self-isolating, and funding to offset those businesses most impacted by the virus outbreak. The total increase in current spending is around £18bn; £5bn higher than was pre-announced before the budget, or that which was expected to be possible within the government’s own fiscal rules.
What is happening to government investment spending?
Investment spending is expected to grow significantly over the parliament, almost trebling by 2024-25. There is limited detail on what this spending will be on, but based on the election manifesto we expect measures focussed on “levelling up” regional inequalities, with spending more heavily focused in the north of England. The plans to increase government investment spending are so large that the Office of Budget Responsibility anticipates that the government may have difficulty finding projects on schedule. This spending is anticipated to have a direct impact on GDP, with the full value of spending transferring through to economic growth.
What does the budget mean for UK growth?
In the near term, the measures designed to bridge a difficult period for the UK economy will hopefully have a significant short-term impact, especially in concert with emergency liquidity measures announced yesterday by the Bank of England. These included a 0.5% point cut to interest rates, the creation of a special funding scheme to help banks support small and medium sized businesses, and allowing banks to hold less capital in order to promote lending. Over the medium term, the impact of the budget is expected to boost GDP growth into 2022 by 0.5%points, but the effect is subsequently expected to fade. Longer term, higher investment spending in areas such as transport infrastructure may yield higher potential growth rates, a positive for the economy. However, the decision not to cut corporation tax will likely weigh on business investment.
In addition, it is perhaps also worth noting that GDP growth is expected to be somewhat subdued for the duration of the forecast period, on the basis of the government’s latest policies on trade and immigration.
Are the fiscal rules changing?
The current fiscal rules remain in place for now, but the whole fiscal framework will be reviewed in the autumn. Given the weak outlook for growth, and comments in the budget on reviewing the role of fiscal spending in the economy, the government may wish to increase the headroom for spending. In order to do so they will need to either change the “buckets” into which different kinds of spending fall, or adjust the rules on overall spending - most likely on current (rather than capital) spending. We would also point out, however, that the Office for Budget Responsibility estimates that the government is not currently on track to meet all of the existing rules by the end of the parliament.
What will happen to borrowing?
Borrowing will be c. £30bn higher for the duration of the forecast period, mostly due to policy decisions. These plans are based on the assumption that the government’s borrowing costs will remain relatively low. This does pose a risk if financial conditions become less favourable.
The budget contains some specific, near term measures to support the UK economy at a time of weak growth – 1% of GDP in extra spending is not to be sniffed at. For the longer term outlook, the government’s investment plans will be of greater importance, and we await details of how that spending will be allocated.
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