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Stuff that matters

First it was the postponement of the budget. Now it is the scrapping of plans for a three-year spending review. Long-term economic strategy has been abandoned in favour of a hand-to-mouth approach designed to see the UK through the winter.

Rishi Sunak’s decision to have a one-year spending review looked inevitable from the moment the number of new cases of the virus started to rise rapidly last month. The chancellor has had two mini-budgets since the summer and he may need to return with further packages of support as tougher restrictions are imposed on more and more of the country.

The choice between a one-year and a three-year spending round might seem something of a technical matter but it has consequences – both political and economic.

A three-year round was seen by 10 Downing Street as a way of demonstrating how the government intended to deliver on its election pledge to level up the regions of the UK. Boris Johnson, by all accounts, was not best pleased at the idea of a one-year settlement.

In terms of the economy, it makes it harder for Whitehall departments and local authorities to plan. The armed forces say the government’s defence review – due out soon – is a pointless exercise if the Ministry of Defence is working on a one-year allocation.

What’s more, by the time the chancellor does get round to holding a three-year review the financial cost of fighting Covid-19 will have become clearer. The pressure on him to reduce the budget deficit by then is likely to be considerable.

As the latest official figures show, the government has had to borrow like never before in peacetime to mitigate the impact of Covid-19 on the economy.

In September alone the government ran a deficit of £36bn, a sum that it would expect to rack up in an entire year in normal times. For the first six months of the year, borrowing totalled £208bn. Some analysts believe the total for the full year could be close to £400bn.

There have been three big recent developments. First, the chancellor has announced plans to see the economy through the winter. Sunak’s winter economic plan extended the VAT cut for hospitality, replaced the furlough with the job support scheme and announced more money for public services.

Second, the recovery in the economy is losing momentum. Weaker growth means lower tax receipts and higher welfare spending.

Finally, the surge in the number of Covid-19 cases has led to the imposition of local lockdowns, which will intensify the slowdown.

One piece of good news for the government is that the financial markets are supremely relaxed about the deficit. The yield – or interest rate – on 10-year UK gilts is about 0.2%, below the current inflation rate of 0.5%.

A nagging concern for the Treasury is that the markets will have a change of heart and make it more expensive for the government to fund its deficit. For now, though, there is no sign of that happening.