The UK’s cost of living crisis is set to get much worse. Last week, the Bank of England raised interest rates by 0.5 percentage points to 1.75% and forecast that inflation would spike at 13% by the end of the year. It also said that Britain would experience a prolonged recession and living standards would drop by 5% in the next year or so, the biggest fall since records began.
This comes after 15 years of stagnant living standards: the poorest fifth of households experienced zero growth in average household incomes between 2005 and the start of the pandemic. The energy price cap, just over £1,200 in 2019, is now forecast to reach £3,600 in the autumn; rising energy costs account for around half of the inflation rate. It will leave families on low incomes unable to meet basic housing, heating and food costs and many parents facing existential choices around how to house and feed their children. Russian president Vladimir Putin is responsible for the global energy price shock that is driving up inflation everywhere. As a result of the war in Ukraine, global gas prices have spiked as Russia has cut supply to Europe via the Nordstream 1 pipeline. Putin has threatened further consequences if the west imposes more sanctions.
But the UK, forecast to have the lowest growth of any wealthy nation next year by the IMF and OECD, has been left particularly exposed. We have barely any gas storage capacity as a result of government decisions and the economy has suffered from a long-term crisis of productivity. Productivity growth dropped significantly after the 2008 financial crisis and has never recovered. The sluggish growth in the decade that followed was propelled instead by consumer spending, fuelled by resurgent house prices. A decade of public spending cuts has left low-paid people further exposed as tax credits and benefits have been eroded, public services unable to meet demand and widened regional inequalities.
A decade of public spending cuts has left low-paid people further exposed as tax credits and benefits have been eroded
Brexit has compounded these structural economic issues. What Britain needed after the financial crisis was a plan to rebalance the economy away from its reliance on the housing bubble and towards investment- and export-led growth. Those countries that have enjoyed tentative recoveries after Covid have done so as a result of exports. Britain, on the other hand, has seen business investment and exports contract as a product of Boris Johnson’s hard Brexit. One estimate has suggested that the economy is already 5% smaller than it would have been had the UK remained part of the single market and customs union. This amounts to billions of pounds lost each year from household incomes and public services’ budgets. It is an indulgence Britain can ill afford, a decision that will be looked back on as a ludicrous act of economic self-harm at a time of global economic crisis.
Many people will be experiencing a financial crisis by the autumn, facing defaulting on their mortgage or being unable to pay their rent. Yet the prime minister and the chancellor are now abroad on holiday. Meanwhile, the contest between Rishi Sunak and Liz Truss to become the next Conservative leader continues to play out. One will be selected by Conservative party members on 5 September and will become responsible for leading the country through this economic emergency. Yet their proposed solutions are geared towards attracting the support of fewer than 200,000 members rather than the pressing needs of the country.
Sunak remains a deficit hawk who would leave the NHS, schools and other public services horribly exposed to the real spending cuts that would result from double-digit inflation and who, it last week emerged, has boasted about diverting funding away from the country’s poorest areas. Truss has pledged to loosen fiscal policy by £30bn, but by handing out tax cuts that will disproportionately benefit the more affluent and do nothing for people who do not earn enough to pay tax. She has explicitly said she is opposed to the targeted measures so desperately needed to ease the burden for low-income families. The Bank of England’s rate rise, which aims to lower inflation by increasing unemployment and suppressing growth further, risks making an already painful recession even worse.
The Conservative party is failing the country. It matters not that Boris Johnson is a caretaker prime minister or that MPs are caught up in a bitter leadership contest. The government urgently needs to introduce a new support package before the autumn, which increases levels of universal credit and targets more one-off support at low-income households. It must also increase spending on public services in the face of the inflationary cost pressures that will amount to significant real cuts, with huge implications for the NHS, social care, schools and the police. It should increase the revenues from the windfall tax Sunak introduced on North Sea oil extraction while he was chancellor, by eliminating the generous tax breaks he included.
Britain is facing an economic storm that could be even worse than the economic impact of Covid. Yet the Conservative government is missing in action. If the new prime minister fails to act on the first day they take office, voters will not be slow to forgive them.