Spending review 2020: UK economy to shrink 11.3% this year – as Rishi Sunak commits nearly £300bn to COVID crisis

Rishi Sunak has announced a public sector pay freeze and a cut to foreign aid spending as the UK battles soaring debt and unemployment amid a huge COVID-induced economic shrinkage.

As he announced his one-year spending review to the House of Commons on Wednesday, the chancellor declared the “economic emergency” from the coronavirus pandemic “has only just begun”.

With UK borrowing forecast to reach £394bn this year – equivalent to 19% of GDP and the highest recorded level in the country’s peacetime history – Mr Sunak announced a pay freeze for public sector workers outside of the NHS.

He also abandoned a Conservative manifesto commitment to fund the foreign aid budget at the equivalent of 0.7% of gross national income, instead cutting it to 0.5%.

Mr Sunak told MPs the Office for Budget Responsibility (OBR) expects unemployment to rise to a peak of 2.6 million people next summer – a level of 7.5%.

The OBR has also forecast an 11.3% contraction in the UK economy this year – the largest fall in output for more than 300 years, the chancellor said.

Mr Sunak added: “Even with growth returning, our economic output is not expected to return to pre-crisis levels until the fourth quarter of 2022.

“And the economic damage is likely to be lasting. Long-term scarring means, in 2025, the economy will be around 3% smaller than expected in the March budget.”

However, the predicted economic contraction and rise in unemployment level were both less than the OBR’s previous forecasts from the summer.

The chancellor said the UK’s underlying debt was forecast to continue to rise until it reached 97.5% of GDP in 2025/26.

And, hinting at possible future tax rises or further spending cuts, Mr Sunal said the government had a “responsibility, once the economy recovers, to return to a sustainable fiscal position”.

Mr Sunak said the government had this year provided £280bn to battle the COVID crisis, with an initial £18bn already earmarked for next year for spending on personal protective equipment, testing and vaccines.

Funding for public services to tackle coronavirus next year will total £55bn, the chancellor added.

He also set out fresh non-COVID spending, with a new £4bn “levelling up” fund to allow local areas to bid for funding for local projects.

“This is about funding the infrastructure of everyday life: A new bypass, upgraded railway stations, less traffic, more libraries, museums, and galleries, better high streets and town centres,” the chancellor said.

Meanwhile, a £4.3bn package of support to help the jobless included a new three-year £2.9bn scheme to help one million unemployed people in their job search, alongside £1.4bn of new funding to increase Job Centre Plus capacity.

The chanellor also announced the publication of a new “National Infrastructure Strategy”, with the financing of the government’s plans to be assisted by the establishement of a new UK infrastructure bank, whose headquarters will be in the north of England.

Mr Sunak defended his public sector pay freeze by highlighting how private sector wages fell by nearly 1% in the six months to September, compared to last year.

“Over the same period, public sector wages rose by nearly 4%,” he said.

“And unlike workers in the private sector, who have lost jobs, been furloughed, seen wages cut, and hours reduced, the public sector has not.”

However, one million nurses, doctors and other NHS employees will get a pay rise.

And 2.1 million public sector workers who earn below £24,000 per year have been guaranteed a pay rise of at least £250.

The national living wage will also increase to £8.91 an hour for those aged 23 and over.

Mr Sunak said the “domestic fiscal emergency” caused by COVID-19 meant “sticking rigidly to spending 0.7% of our national income on overseas aid, is difficult to justify to the British people”.

He told MPs a cut in foreign aid spending in 2021 would be followed by an “intention” to return to the 0.7% commitment “when the fiscal situation allows”.

Justin Welby, the Archbishop of Canterbury, was among early critics of Mr Sunak’s action, branding the foreign aid cut “shameful and wrong”.

With just 36 days until the end of the Brexit transition period, Mr Sunak made no mention of the continuing trade negotiations with the EU.

The OBR predicted a failure to strike trade deal in the next month could see a further 2% reduction to GDP in 2021, due to disruptions to cross-border trade.

Earlier on Wednesday, Mr Sunak and the chief secretary to the Treasury, Steve Barclay, updated the cabinet ahead of the spending review.

Cabinet ministers were warned that economic forecasts by the Office for Budget Responsibility (OBR) made for a “sobering read”.

Wednesday’s spending review came a week ahead of England’s month-long lockdown coming to an end.

This will allow all shops across the country to open for three weeks before Christmas and – Mr Sunak will hope – provide much-needed stimulus for the economy.

The prime minister and the chancellor were due to address the 1922 Committee of Conservative MPs on Wednesday evening.

Analysis: No chancellor in peacetime has faced such a sea of red

By Paul Kelso, business correspondent

Rishi Sunak set the tone for his spending review in the opening sentence: “Our health emergency is not over yet and our economic emergency has only just begun”.

The scale of that emergency was chastening even if much of it was expected, and in parts not as truly awful as the Office for Budget Responsibility had previously forecast.

The economy will have shrunk by 11.3% by the end of the year and GDP will not recover to pre-COVID levels until the second half of 2022. By 2025 it will still be 3% smaller than forecast in the March Budget.

Meanwhile borrowing to tackle the pandemic has been stratospheric, £394bn this year and another £164bn next, some £55bn of which will be for COVID-specific projects including NHS Test & Trace.

And unemployment, the devastating human metric of any recession, is forecast to reach 2.6m people next year.

No chancellor in peacetime has faced such a sea of red, but Mr Sunak offered only two confirmed cuts to government spending to offset the tide.

The first, a pay freeze for public sector workers.

One million NHS staff are exempt and those earning less than £24,000 will receive a one-off £250 rise next year, but it still leaves millions celebrated as “key workers” facing a real-terms pay cut.

The second was to the foreign aid budget, set in law by David Cameron’s government at 0.7% of GDP but now to be trimmed to 0.5% until “fiscal conditions allow” a return.

The chancellor promised departmental spending will rise along with the national living wage and offered a check list of measures and initiatives, from jobs to new infrastructure.

But remarkably there was no mention of Brexit, or even acknowledgment of the cliff-edge that looms in just 36 days if there is no deal, an outcome the OBR says will cut a further 2% from GDP.

When the chancellor sat down we knew more about how this government hopes to plot a path to recovery, but so far only two groups – key workers and the foreign poor – will help pay for it.

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