Had everything gone to plan this year, the Chancellor would have been delivering his Autumn Budget speech. Instead, Rishi Sunak declared an economic emergency alongside a slimmed-down spending plan as part of the Spending Review 2020.
Summary of the Spending Review 2020
On Wednesday 25th November, the chancellor delivered the Spending Review 2020. The spending review comes as the coronavirus health emergency continues and the economic emergency has just begun.
The spending review painted a bleak picture of the country’s finances and challenges on the horizon – although, unsurprisingly, the Brexit transition on 1st January 2021 was not mentioned.
Some political sources believe that any tax changes to fill the £280 billion hole left in public finances by COVID-19 won’t be announced until the Spring Budget 2021 at the earliest, and perhaps not until after that.
The latest Spending Review was intended to set out the Government’s plans for the next three years. However, due to the economic turmoil caused by coronavirus, this has been reduced to just one year.
As a result, the difficult financial climate dominated this year’s review with the economy projected to be 11.3% smaller than it was pre-virus, back in February 2020. This represents the largest annual fall in output since that triggered by the Great Frost of 1709.
The dim economic forecast came from the Office for Budget Responsibility (OBR), which supplied the second of its two annual predictions, the first having been delivered in March 2020.
The OBR based its economic outlook on three scenarios – an upside, a downside, and a central forecast.
The central forecast assumes that medium-to-high public health restrictions will remain in place over winter to control the impact of the virus on the NHS and support services. It is anticipated that the restrictions will be eased in spring as the warmer weather approaches. Following this, it assumes that an effective vaccine will be made widely available in the second half of 2021.
Based on this scenario, the OBR predicts that the economy would recover steadily over the next couple of years, with UK GDP growing by 5.5% in 2021, 6.6% in 2022, then by 2.3%, 1.7% and 1.8% over the next three years.
However, as the chancellor warned in his Spending Review speech, the economic damage caused by coronavirus is likely to have long term effects, and economic output is not set to return to pre-crisis levels until Q4 2022. Long term effects such as cancelled or deferred business investment and sustained unemployment will likely result in the UK economy being 3% smaller in 2025 that the OBR expected in March 2020.
More than £280bn has been spent this year to “protect people’s lives and livelihoods” during the pandemic, with a further £55bn expected to be spent in 2021/22.
The furlough scheme has cost £43bn as of the 25th November 2020, and these costs will continue to increase as the scheme has been extended until 30th April 2021.
And, more spending may be required to support the economy. Adam Marshall, director-general at the British Chamber of Commerce, said: “With an uncertain winter ahead, the Government will need to maintain an open mind on providing further support to businesses struggling to survive.
“As we look to rebuild and renew local and national economies, businesses will also need further significant incentives for investment in people, productivity and the planet.”
One detail not mentioned in supporting documents is a freeze on the business rates multiplier for 2021-22. The Government predicts this will save businesses in England £575m up to 2025.
Before the furlough scheme ends next spring, employers will need to account for the increase to the minimum wage – which has been rebranded as the national living wage. It will increase to £8.91 an hour, with the rate extended to over-23s for the first time.
Increasing these rates in the current climate presented a formidable task for the Low-Pay Commission, which had to balance the very real solvency risks to smaller employers with the needs of workers on lower pay.
Workers aged between 21 and 22 will see their minimum hourly rate increase to £8.36, while the rate for 18 to 20-year-olds is set to rise to £6.56 an hour. Under-18s and apprentices will see their respective rates hit £4.62 and £4.30 an hour.
“Many lower-paid workers have been the heroes of the COVID-19 crisis,” said Rain Newton-Smith, chief economist at the Confederation of British Industry. “But unemployment is rising in lower-paying sectors and these increases will be tough for some firms to afford.”
Unemployment as a result of the pandemic is expected to hit 7.5% by spring in 2021, which is equivalent to around 2.6m people.
In an attempt to reduce these numbers, a new £2.9m restart programme has been announced which aims to help more than a million unemployed individuals find work over the next three years.
Balancing the books
The OBR said support for public services, households and businesses is expected to cost £280bn in 2020, pushing the deficit to £394bn – the highest since the height of the Second World War in 1944 and representing 19% of UK GDP. It also takes debt above 100% of GDP for the first time since 1960.
“Given what’s happened to the size of the economy, that can only mean one thing for taxes,” said Paul Johnson, director at the Institute for Fiscal Studies. “They, too, could be set on an inevitable, if delayed, upward trajectory.”
The OBR’s central forecast shows the Treasury needs to raise between £20-30bn through spending cuts or raising taxes to balance revenues and day-to-day spending and stop debt from rising by the end of this parliament.
The Office of Tax Simplifications has recommended an overhaul of Capital Gains Tax, and while Rishi Sunak is under no obligation to accept these changes, harmonising Capital Gains Tax rates could raise an extra £14bn a year.
Inheritance Tax could be another option for reform. Ahead of the March Budget, there was some speculation that this tax could be overhauled, as it faced criticism for complexity.
In January 2020, a group of MPs recommended cutting the rate of Inheritance Tax, but removing almost all of the reliefs associated with it would help to prevent tax avoidance.
The OTS report highlighted that any changes to Inheritance Tax might overlap with reforms to Capital Gains Tax.
Steven Cameron, pensions director at Aegon, said it’s “vital” that any cost-saving measures don’t discourage people from saving for retirement or emergencies, and that investment in the economy should be encouraged instead.
“For those lucky enough to have any extra funds, now may be the time to make as much use as they can of incentives they may lose by topping up pension contributions or making full use of ISA allowances,” he added.
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