Rishi's recession

Every other country in the G7 is growing. The UK is set to fall into recession, with the help of Sunak's government

In a year where every other major economy is set to grow, the latest IMF forecasts show the UK contracting. There are times when governments can fairly argue that the economy is beset by forces beyond their control, that they are merely the victims of bad fortune. The occupants of Downing Street have no such excuses; their policies have helped us directly to this point.

In October, the IMF expected the UK to see modest growth this year. In November, Jeremy Hunt gave his Autumn Statement, setting out with Rishi Sunak their plan for fiscal consolidation. In January, the UK is expected to enter recession.

When an economy sheds a full percentage point of growth over three months following a major policy announcement, it doesn’t take a great deal of thought to identify a plausible culprit.

It helps that the Autumn Statement consisted of an extremely aggressive fiscal consolidation — with tax increases across the board — conducted at a point where the Bank of England was hiking interest rates under intense political pressure. If you sat down and asked yourself what policy combination you should choose to cause a recession, it would be this one.

The logic behind the approach was straightforward: markets had been spooked by Liz Truss’s tax cuts, and had to be shown that Britain was a sensible country. Moreover, inflation was high, and needed to be reduced. Both could be achieved by raising taxes: the government would show that it was willing to reduce the deficit, and the money soaked out of the economy would cool off demand, and with it inflation. The small flaw in this plan was that it was utterly insane.

Inflation, at its core, is essentially a problem of too much money chasing too little output. In this case, it was being driven by the loss of Russian oil and gas supplies to Europe. This had resulted in higher energy prices, which fed into other prices downstream. It also posed a difficult challenge for policymakers, who couldn’t magically turn on new sources of energy.

There are two important things to understand here. The first is that inflation measures the change in prices over time. If price double in year one, and are stable in year two, inflation is 100% in the first year, and 0% in the second. The second is that Russia can’t turn the gas off twice. This meant that, all being well, inflation was set to come down in the longer term as output — and prices — stabilised.

The tricky thing for politicians was working out what to do in the near term. Inflation is not costless; it erodes savings and spending power, and often hits the poor particularly hard. A long period of high inflation is not desirable. At the same time, the only tool available to them to handle it was altering demand; reducing economic activity by reducing spending power. The costs of this approach are obvious: you are essentially taking money from people’s pockets in the hopes that less will be bought, and in the process reducing economic activity. This was the approach that Downing Street’s new management opted for.

In plain English, Sunak and Hunt were proposing to drive Britain into recession in order to combat inflation which was due to fall anyway.

It now appears that they will get their wish. In turn, their political messaging has switched towards attempting to capitalise on stabilising prices, with Hunt remarking that “the biggest tax cut that we can give the British people is to halve inflation”. This would ring hollow at the best of times, given that fighting inflation is the job of the independent Bank of England, but it is particularly egregious following the decision to raise the tax burden to its highest level since the war. The best tax cuts they could give to the British people would, in fact, be tax cuts.

At this point, it's worth noting that Britain does have longer term issues. There are problems which Sunak inherited which he can in turn point to when explaining the deterioration in forecasts. At the same time, he has done little to improve things, and a great deal to make them worse. In the court of popular opinion, this is likely to be sufficient to prove his culpability.

Sunak, and his Chancellor Jeremy Hunt, will attempt to find excuses. They will have sombre words about the difficult economic environment. But run your eye down the table of forecasts, and this excuse falls away. Germany, with an economy built on cheap Russian gas, is holding its ground. China and India are back, posting growth figures of 5% and 6%. Even Russia, labouring under the weight of sanctions, expects a small expansion in activity. Only Britain has managed to stumble its way into recession. Rishi’s recession.