Daily Coronavirus Webinar: In Discussion with Philip Hammond

Overview:

For today’s webinar, the CBI was pleased to welcome Philip Hammond, the former Chancellor of the Exchequer. He was joined by Rain Newton-Smith, CBI Chief Economist, to discuss the UK’s economic outlook as we move into the recovery phase of the crisis.

Here's what they spoke about:

• Job retention scheme (JRS) updates are expected today
• The economic outlook: hope for the best, prepare for the worst?
• Productivity and growth post-Covid
• Brexit
• Global trade

JRS updates are expected today

The Chancellor is expected to make an announcement later today giving more details on the partial furlough scheme, said Rain. The JRS has been a “lifeline” for business and will run through until October. However there will be greater flexibility introduced from around August to allow companies to bring workers back part time while still furloughing them a few days a week. Rain anticipates that the government will ask businesses to cover wages for the hours worked by their employees up to the 80% level. For days on furlough, businesses will likely be asked to contribute a small amount of money with the government paying the rest, again up to that 80% level.

For some businesses, the effects of the Covid-19 crisis will be felt for longer, hotels and leisure for example. Rain suggested that, in time, other systems of financial support may need to be introduced for businesses that continue to struggle.

The economic outlook: hope for the best, prepare for the worst?

If we are in a scenario where there is a vaccine or a treatment found for Covid-19 over the next six months to two years then we can expect businesses to return “to something like normal” said Philip Hammond, with the exception of those areas of the economy that have suffered “particular structural damage.” “That will be the goal or the objective,” he said. Philip mentioned aviation and commercial real estate as sectors which are not expecting to go back to the levels they were at pre-Covid.

Philip explained that if we don’t find a vaccine or a treatment, we will have to open up the economy “on a living with Covid model.” Some sectors will be better equipped to cope with that than others, areas such as hospitality will be “hugely challenged.”

Philip suggested that there is some room for optimism.“It’s possible to envisage a relatively optimistic scenario where we are looking at a traditional recession.” However, we should heed the warning from scientists that we can’t be certain about a vaccine or a treatment.

Asked about a scenario where a vaccine does not come on to the market for two to two and a half years, Philip said that this would be particularly challenging as businesses will be reluctant to invest in a “living with Covid model” as well as thinking about “business as usual.” Uncertainty has a big impact on the economy, leading companies, consumers and households to postpone decisions on purchases and investments. “Even if a vaccine is developed very rapidly. Very rapidly won't be rapidly enough for some businesses,” he said.

Rain explained that the recession we are facing will be “one of the sharpest recessions the UK and the world has seen.” In order to recover from that, Rain stressed the necessity of government measures for protecting public health and ensuring the health of business. Getting people back to work will be a critical part of that, as will “key enablers” such as transport. Rain also emphasised the need for consumer confidence to create demand in the economy: “one of the things we want to make sure is that as shops start to reopen, that people feel confident to go out and spend.”

Productivity and growth post-Covid

Job losses and unemployment are rising and will continue to climb as the JRS eases off later in the year. Politically, it may be tempting to mask some of these effects, but Philip counselled against this. “All history teaches us that if we are in a situation where we need structural change in the economy, the sooner we get it done, the better for our growth prospects in the longer term.” He advised that we need to “make changes, retrain and redeploy” the workforce to get the economy moving.

This point was echoed by Rain, who mentioned the need to focus on further education, universities and apprenticeships as we think about workforce skills and retraining.

During his time in government, Philip Hammond was a big advocate of measures to increase productivity in the UK economy. During the webinar session, he delineated how over the last few years, businesses have tended to “hoard” labour. Multiplied across the economy, these practices lead to lower levels of productivity. The Covid-19 crisis may cause employers to “consider the balance between labour and capital,” he said.

Both Rain and Philip pointed to the need for the government to protect promised increases in spending on infrastructure in order to build capacity for the long term. Rain particularly highlighted the opportunity for growth in renewable energy capabilities.

Brexit

At present, Europe has a lot to worry about other than Brexit. The European Commission is finding itself “on the back foot,” said Philip because the response to Covid-19 has in the main been led by individual member states. If the UK government seeks a Brexit trade deal now, they could be “wasting time and energy” by “knocking on a closed door.”

He said that rather than pushing for “an all singing all dancing trade deal” over the next few months, a better approach may be to seek an interim trade deal without tariffs on trade in either direction. Such a deal could remain in place for one to two years, enabling the two parties to negotiate a trade deal when they both have greater “bandwidth.”

However, Philip is concerned that there is a high likelihood that we will end up with no deal. There is continued debate about the “impact of not being able to trade frictionless and tariff free” with the European Union, with some in politics believing it will be fine and others (Philip included) thinking that after 45 years of membership, a change to our trading arrangements will be a “huge shock.” A shock that we do not need at a time where the UK economy has taken a significant economic hit due to Covid.

Global trade

A discussion of travel restrictions and quarantine measures led us to the topic of global trade and the importance of the UK in championing it. “Even going into this crisis, global trade was facing some pretty serious headwinds,” Philip said. He cited US-China tensions and an “all time fever pitch” of anti-China sentiment, as well as narratives in the EU about strategies to repatriate manufacturing as examples of this.

As we emerge from Covid-19, Philip said he feared that protectionist agendas would begin to evolve across the EU “under the rubric of supply chain resilience.” As an open economy, the UK could “lose more than most” if such headwinds prevail. As we move into the recovery phase we need to be “vocal” in defending global trade, said Philip.

This was repeated by Rain who said that “global headwinds may hold us back.” She suggested that if we take advantage of the recovery happening in Asia now it may also help the UK to emerge from the crisis.

Key questions we answered:

1. Rain, what is the data suggesting about the state of the UK economy?

• The signals from the economic indicators we have so far point to the deepest downturn in 300 years (since the Bank of England has been collecting data).
• Last week’s GDP estimate for March set a new record for the sharpest decline in a single month.
• 90% of businesses are reporting the pandemic has had a negative impact on domestic sales.
• Expectations for activity for the coming quarter were at the lowest balance ever recorded.
• We must gradually and safely open up the economy, but also give households the confidence to spend in shops when they’re open. We also need to get the twin enablers of schools and transport working safely.

2. Philip, what could the next six to 18 months hold for the UK economy?

• A great deal depends on whether we expect there will be a vaccine and/or a treatment.
• As we move to the next phase, we would expect businesses will be able to return to something like normal – whether this takes six months, nine months, a year or two years.
• If we don't develop a vaccine or a treatment, it's clear the economy can't stay closed. In this scenario we have to reopen the economy on the basis of the ‘living with Covid’ model.
• Some sectors, like hospitality, will be hugely challenged by a world where we're going to be living with this disease for a long time.
• I think it's possible to envisage a relatively optimistic scenario where we're looking at a ‘traditional’ recession, where once the recovery starts, we can map how to return to business as usual.
• But the scientists are warning us that we can't be certain there'll be a vaccine or a treatment. And if there isn't, then it's going to be very different. Some sectors of the economy will have been damaged already and will not return to normal.
• The aviation sector, even in the most optimistic scenario, does not expect to go back to where it was – even in the medium term.

3. Philip, if a vaccine was two years away and you were the Chancellor, what would be your expectation for the economy?

• If this is the case, businesses would have to make capital investment to develop a ‘living with Covid’ model.
• Since the EU referendum in 2016, in the UK we’ve developed expertise on understanding how uncertainty can impact an economy. And, of course, anything which prolongs uncertainty is going to postpone decisions by consumers, households, and by businesses.
• The reality is that even if a vaccine is developed very rapidly, many businesses will still be unable to return to their pre-Covid models.
• There are two hurdles that businesses will have to clear.
  • The first is government regulation around social distancing. For example, if we reopen restaurants, will they be required to move tables further apart?
  • The second are behavioural responses. How will the public respond?
• Probably the single most important question is whether the public are going to feel comfortable using public transport, because this is going to define whether businesses are able to return to something like normal.

4. Rain, what policies would you like to see to stimulate growth?

• I think there are three key elements we need to see:
  • Business investment. We know that historically the UK’s business investment has been lower as a proportion of our economy than some of our G7 peers. There could be some measures around capital allowances, particularly for buildings and structures, to try and get more business investment.
  • Skills and retraining. I think we need to get used to being potentially stuck in a period of higher unemployment. And what you need then is a good way of matching people and the skills they have with the jobs that are being created.
  • Government investment. Is the government focusing on the big infrastructure investments and their vision for the UK economy? So things like R&D, clean growth and renewable energy are really important.

5. Philip, what role will global trade play in the UK’s economic recovery?

• Even going into this crisis, global trade was facing some strong headwinds.
• The US/China tensions have not gone away. Anti-Chinese sentiment is now probably at an all-time high.
• We've also got a narrative emerging in places like the EU around the need for strategies to repatriate manufacturing. I fear we could see protectionist agendas.
• The UK is a very open trading economy, and so we stand to lose more than most from this. So I think the UK needs to be vocal in defending open and free trade against all comers.

6. Philip, what do you think will happen with Brexit in the next six months?

• The EU has got problems of its own, and the Commission's on the back foot.
• Member states have taken the lead in responding to Covid, and that's kind of upset the political balance in the EU.
• They've also got problems over the budget settlement. Brexit is certainly not the only thing or even the main thing on their agenda.
• On the UK side, there are many people who think that the logical thing would just be to extend the transition and postpone this discussion until we have more bandwidth available to do it. But the government has made it pretty clear that it's not going to do that.
• However, the EU's distractions and lack of bandwidth mean we're going to struggle to get an all singing, all dancing trade deal agreed over the next few months.
• My own preference would be that we tried to negotiate an interim trade deal, a framework that allows us to continue to trade without tariffs in either direction. Then, we can negotiate a long-term trade deal in a cooler, calmer atmosphere with a bit more bandwidth available.

7. Philip, is an interim deal likely?

• I'm afraid I think there's quite a high likelihood that we end up with no deal simply because of the lack of bandwidth.
• There are lots of people, including people in government, who think the issue of free trade has been massively exaggerated and it'll all be fine. But there are many others, including me, who think that after 45 years of membership of the EU, our economy is structured in such a way that not being able to trade on a on a relatively friction-free basis with the EU is going to cause a huge shock to the economy.
• And frankly, our economy is among the most significantly hit by the Covid crisis.
• In addition, we will be more exposed than most developed economies to any headwinds in international trade during the recovery – a sort of self-inflicted shock.
• In my view, we need to try to delay that from the Covid recovery period. And if we can't do that by an extension of the transition period, then either ideally a permanent or a temporary trade deal to avoid taking that hit this autumn would be very much in the interests of the UK economy and protecting U.K. jobs in the recovery.

8. Philip, how would you approach a potential budget in July?

• The government faces a very strong internal tension. On the one hand, there will be a strong desire not to let the deficit get out of control. On the other hand, there will be a strong desire to support the economy and to support businesses.
• Typically, you get budget deficits down in relatively good times, so you have capacity to support the economy in difficult times. And this is clearly a difficult time.
• So the government's willingness to borrow more in the short term in order to support the economy is the right move.
• What the Chancellor has been very upfront and honest about is that you can do these things in the short term, but you can't do it in the long term.
• My personal view is that this government will be extremely reluctant to either increase taxes or reduce public spending. So I expect that the great majority of the burden of this crisis is going to be absorbed through increased borrowing and left on the table for future generations.
• In the end, getting consumers spending, particularly on big ticket purchases, depends on them having confidence about their jobs.
• I've heard lots of people talking about a more inclusive recovery, a greener recovery, but I’m 99% certain that the focus will be protecting and creating above everything else.