UK spending review: five things to watch

Rishi Sunak’s spending review on Wednesday will only cover the 2021-22 financial year, but the significance of the chancellor’s statement will resonate for far longer.

Although the coronavirus crisis has forced Mr Sunak to present at least five mini-Budgets to the House of Commons since March, the spending review will be more significant. It will come with official economic forecasts showing the consequences of what the chancellor calls the Covid-19 “economic shock” and all of his support measures this year.

At a moment of huge health and economic uncertainty, Mr Sunak’s words and deeds will reveal much of the government’s economic strategy for the rest of the Parliament. Here are five things to watch out for.

The dire economic backdrop

Only afficionados of economic statistics and government forecasts will notice the upgrades to the economic and public finance outlook since the Office for Budget Responsibility’s back-of-the-envelope scenarios last summer. Instead, all eyes will be on how nasty is the fiscal watchdog’s assessment.

In comparison with the last full OBR forecast in March, economic growth this year will be revised down to something below minus 10 per cent — the worst annual performance in over 300 years — and the forecast for public borrowing is likely to exceed £350bn.

With public spending supporting so many livelihoods, Torsten Bell, director of the Resolution Foundation think-tank, said that the share of public spending this financial year will rise from 40 per cent to almost 60 per cent of GDP. “The state has grown this year to levels never seen outside of wars,” he added.

The most important estimate the OBR must make will be the scale of the lasting hangover resulting from coronavirus. In the summer, the fiscal watchdog suggested the economy would be 3 per cent smaller in 2025 than it predicted in the March Budget. A similar forecast on Wednesday would show public sector borrowing will still be over £100bn at the time of the next election in 2024-25.

Mr Sunak will not announce new tax decisions or public finance targets on Wednesday and instead will show the size of the hole in the public finances that will need to be filled by better economic performance, higher taxes or public spending cuts. The levels of public spending he tells the OBR to pencil in will begin to reveal the chancellor’s strategy for what the IMF calls the “fiscal consolidation” stage of the recovery.

The government’s commitment to ending austerity

Boris Johnson is no fan of the “A” word and has pledged, “we will not be responding to this crisis with what people call austerity”.

Since becoming prime minister, Mr Johnson has ensured last year’s one-year spending round for 2020-21 was the most generous since the early 2000s, announced a large four-year settlement for schools and last week handed the military the biggest payout in decades.

Left open until Wednesday is the level of day-to-day spending in 2021-22 and some capital spending plans for the next three years.

The treasury has indicated that it will separate “normal” public spending from coronavirus expenditure so that comparisons with underlying spending levels are possible. In September 2019 Sajid Javid raised planned day-to-day departmental spending for 2020-21 by 4.1 per cent, and capital spending by 6.4 per cent, so these increases provide the benchmark for Mr Sunak’s 2021-22 plans.

Column chart of Day-to-day spending (£bn, real terms) showing Boris Johnson had already planned an end to a decade of austerity

Huge distortions in public sector inflation measures this year will complicate comparisons, but the cash totals will reveal whether spending is rising faster or slower than in the past.

The departmental winners and losers

Spending reviews are always about the squeeze the Treasury can impose on as many departments as possible to fund headline-grabbing generosity in a few other areas.

The government has already announced that defence, education, capital spending and health will do better than the average, leaving many losing departments in their wake — including 5.5m public sector employees. The Treasury has already told those outside the NHS that “restraint” is needed, suggesting a return to caps on annual pay settlements of about 1 per cent.

The overseas aid budget is also in the line of fire, with the link to 0.7 per cent of national income under threat.

The Institute for Fiscal Studies think-tank calculates that two-thirds of government spending has been pre-determined by commitments the government has already made, leaving many unprotected departments “facing a further round of cuts”. Areas feeling particularly vulnerable are those that used to receive money, such as agricultural support, from the EU and now have to persuade the Treasury to provide replacement funding.

The commitment to ‘levelling up’

Mr Sunak will seek to demonstrate that the big winners from the spending review will be “left behind” communities far from London. The main vehicle for this will be allocating money to capital projects scattered around the country from the capital spending budgets that already exist.

When the chancellor is announcing new projects, one question will be whether he reins back the planned increases in public sector capital spending from the overall level of public expenditure to help improve the public finance forecasts.

Bar chart of 2018-19 capital spending per head  showing London currently receives more capital spending than other areas

Another sign will be the degree to which the national infrastructure plan and the Treasury’s “green book”, which sets out the rules for assessing capital projects in government, skew priorities to the north of England and away from the south-east.

To show that levelling up is not just a question of infrastructure, the chancellor will also announce that parts of government itself will move away from the capital, with elements of the Treasury leading the way.

The effects of Covid-19

As far as possible, the Treasury will split out what has been spent on coronavirus from normal public spending and treat it as a one-off. The OBR will have an estimate of the Covid-19 related expenditure since the crisis started.

With spending on protective equipment and the test and trace programme running into the tens of billions, alongside significant sums on enabling the NHS to cope — including the cost of the Nightingale hospitals — the direct cost of the crisis is likely to exceed £200bn.

For the first time, Mr Sunak will have to allocate money in the 2021-22 financial year to address continuing costs of coronavirus and the ongoing testing and vaccination programme.

The Treasury has said the NHS will receive £3bn in additional funding to help clear the backlog in routine procedures and operations that were missed during the pandemic, ease existing pressures and increase support for mental health services.

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