Speech on Covid and the UK Economy by Clare Lombardelli, Chief Economic Advisor, HM Treasury.
Here is the transcript of the speech, exactly as is was delivered:
Thank you, Jon, the Strand Group and the Corporation of London for inviting me to speak this evening. And thanks to you all for coming. It’s really great to be with you.
I’m going to talk this evening about the Covid pandemic and the UK economy, from the perspective of the Treasury. Specifically:
- What was the size and the nature of the shock to the economy?
- How did we understand the economic impact in the Treasury? What data and tools did we use?
- How did we design the economic policy response?
- And what might some of the long-term economic impacts of Covid be?
What I want to share with you tonight is how we thought about the Covid crisis in the Treasury. And what it was like at the heart of economic policy making during an extraordinary and unique time.
This won’t be an exhaustive commentary. It will be for the Covid-19 Public Inquiry to examine the Government’s Covid response. Nor will this be a discussion of the policy decisions taken by ministers.
The size and nature of the Covid shock
So, first, the size and nature of the shock.
First and foremost, Covid was a human crisis. Hundreds of thousands of people in the UK lost their lives. Many more lost people they loved. And everyone suffered because of the restrictions on activity and contact that were put in place to control the virus.
Tonight, I am going to talk about the economics. But we can’t and shouldn’t separate that from the human tragedy of Covid. And I will discuss how the economic impacts have very human consequences.
As of this month, the UK has had recorded over 22 million confirmed cases and there have been nearly 200,000 deaths mentioning Covid.[1]
Between March 2020 and July 2021, the Government implemented a series of restrictive measures, most notably three national lockdowns.[2]
It will be years before we fully understand the impact of the pandemic on the economy. But tonight I’m going to describe the most immediate economic impact in three big numbers.
First, economic activity: In 2020 UK GDP fell by an estimated 9.3 percent.[3] The largest hit to economic output in one calendar year since the post-World War I recession.[4]
This is the combined effect of the economic hit from the pandemic, the restrictions put in place to control it, and the economic policies implemented to support people and businesses.
Second, borrowing: The Government borrowed an additional £330 billion across 2020-21 and 2021-22.[5] This was to fund the response to Covid and because of the fall in economic activity. This was record peacetime borrowing and has caused the nation’s debt rise to a level not seen since the early 1960s.[6]
And finally, unemployment: A 10 percent ‘ish’ hit to activity could reasonably have led to unemployment reaching 9-12 percent.[7]
In the event, UK unemployment peaked at 5.2 percent.[8]
The story is of an extraordinary hit to the size of the economy. And a massive rise in government borrowing. In truly unprecedented circumstances for an economic shock.
But a story of a limited rise in unemployment.
The nature of this shock was very different to any other of the post-war period.
Where recessions have been driven by economic shocks to demand and to supply.
Usually, economics gives us a playbook on how policy should respond.
And, depending on the balance of shocks, the typical response of the Government is then to:
- support activity;
- and/or to encourage reallocation of labour and capital across the economy;
- and to support those facing the most painful consequences.
Even wars have a more textbook response – to divert economic activity to the most pressing needs.
The Covid shock was different. It was a public health crisis.
This had not happened before, at scale, to a modern, complex economy. There was no playbook here.
Covid required the temporary shut-down of parts of the economy to reduce close contact and the number of contacts.
The point here is that often in a crisis, you are trying to stimulate economic activity. Whereas, during the pandemic, we were implementing public health measures that would inevitably supress activity. As an economist that was an extraordinary thing.
There was no immediate need to fundamentally restructure the economy to facilitate a structural reallocation of labour or capital.
Social consumption was not dead; it was put into hibernation for the period of the virus.
This had significant implications for what the Government’s economic objectives were and the policy interventions developed.
Economic data, modelling and forecasting during the pandemic: what it could and couldn’t do
So what were we focusing on behind the scenes? And what were we not doing?
To answer this, I’ll move on to my second theme – how we used data, modelling and forecasting in the Treasury to understand the economy and develop the policy response.
Understanding what was going on in the economy, in real time, was very difficult.
In the early stages much about the virus itself wasn’t known – its severity, transmissibility, and the length of time the pandemic would be with us. We also didn’t know how effective the measures implemented to control the virus would be.
And there was a set of things that were critical to understanding the economic impacts, that were also uncertain. We didn’t know how individuals and businesses would respond to the virus itself. And we didn’t know how people would respond to the restrictions put in place to control it.
Let me start by talking about data.
The availability of timely data was a challenge.
In February, March and April 2020 the situation was changing very rapidly.
Under normal circumstances, official statistics are the best way to understand the economy. They provide high standard, quality assured data.
But they take time to produce.
For example the earliest official GDP data is published 45 days after the end of each month.
And a week is a long time in a pandemic.
To deal with this, we used four approaches:
First, official statisticians really stepped up to the challenge.
Sir Ian Diamond, Sam Beckett and their teams at the Office of National Statistics rapidly adapted the production of stats. They stood up the world class Coronavirus Infection Survey. And they introduced other key surveys such as the Business Impacts and Conditions Survey (BICS).
They also introduced new data on prices, spending and trade so economic activity could be tracked closer to real-time.[9]
Some of these surveys were up and running by early April 2020 – just ten days after lockdown began.
Second, we turned to new measures of activity.
We used many data sources from the private sector as indicators of economic activity. Some of these were openly available. For instance, in March 2020 the restaurant platform OpenTable began publishing daily information on restaurant bookings. And we used Google’s mobility data on transport usage and time spent in different locations, like at home or in shops.
And we accessed new, private sources of data. Companies, such as Revolut, shared the information they had with government to help us understand what was happening in real-time.
This was a transformation – fast and big data being used in a way we never had before.
Third, we learnt from other countries.
International data helped us understand the experience and behaviour of populations in other countries.
In the early stages we learnt how the economic impact might evolve from countries like China and Italy who saw earlier increases in transmission than the UK.
We looked at comparisons between similar countries taking different approaches such as Sweden and Norway. This helped us to better compare how economic activity responded to the virus and guidance, and how economic activity responded to restrictions.
We learnt about zero Covid strategies from Australia, New Zealand and many Asian countries.
And observing, for example, the experience in France and Spain, helped us understand the impacts of measures like testing and vaccine certification.
Fourth and finally, we drew on the economics profession.
We reached out to economists in academia, research institutes and the private sector to hear their take on what was happening.
I am particularly grateful to the Royal Economic Society, with whom we developed a rapid match-making service. We asked them specific questions, or about particular topics we were grappling with, and the best placed academics gave us their answers on topics, such as the impacts on inequality or implications for future healthcare provision.
Let me turn to how we used this data and information.
Economics provides a wide range of potential models and tools for us to draw on. Some of these are long-standing, others more recent.
Typically, economic models look at relationships between parts of the economy to explain or understand what is going on. However, during Covid, the relationships between economic variables changed, and kept changing.
The uncertainty meant it was not possible to meaningfully model the overall ‘economic cost of lockdown’ for two reasons.
First – to estimate the cost of an intervention, you have to know what would happen in the absence of that intervention. It wasn’t possible to know what would have happened to the virus if there had been no lockdown. And we couldn’t have known how the economy – how people and businesses – would have responded to the virus without a lockdown. There was no reasonable counterfactual.
Second – we couldn’t estimate how people and businesses would respond to the restrictions. There were no past episodes to provide reasonable approximations of what the economy and individuals were going through. And this is a really critical point – the way the economy responded changed over time. The economy showed a remarkable ability to learn and adapt.
Let me illustrate this. In the first lockdown, in March 2020, 24 percent of firms reported they had paused trading. In the second lockdown, in November of that year, this had fallen to 11 percent of firms. Within the food and accommodation sector, the effect was even more stark. 82 percent of firms were not operating in April 2020, in the second lockdown, 55 percent closed for business.[10]
So, any attempt to estimate the economic impact of later lockdowns or restrictions, based on experiences earlier in the pandemic, would have hugely over-estimated the associated economic cost.
We did undertake lots of analysis in the Treasury. We sought to understand how much isolation, ill health and death could impact on labour supply. This gave some sense of the possible impact of testing and isolation.
We also looked at the goods and services different households typically consumed, to understand the impact of the pandemic and restrictions on demand.
And we examined ‘epi-macro modelling’, which rapidly developed in the economics community. This type of modelling combines epidemiological and economic relationships. It estimates how characteristics of the virus and of control policies affect both transmission and economic activity. So it provides a framework to compare the effects of different policies – such as masks, testing, isolation, and lockdowns. It gave a sense of the relative impacts of these measures.
But, epi-macro modelling proved to have limited practical applications. It is highly sensitive to underlying assumptions and small changes can cause large differences in the outputs of these models.
Economic modelling played a role in helping us think through how different parts of the economy could respond. But we were in a world where we were learning about the virus and behaviour over time. And the virus and behaviours were changing all the time. Meaning economic modelling was not suited for rapid policy design.
To put this another way, we could have constructed and estimated economic models all day long, and they would have been wrong. What we did do was think hard and look very carefully at all the data and evidence available and we used this to form our understanding and design the policy response.
Alongside data and models, we used economic forecasts to understand the economic impact of Covid. And to inform the development of the economic policy response.[11]
Through February and March 2020, the level of concern within the Treasury about the scale of the economic impacts of Covid was rising. In March 2020, the Office of Budget Responsibility[12] shared with the Treasury some estimated impacts – of a severe 35 percent hit to GDP in the second quarter of 2020, before a sharp bounce back by the fourth quart
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