Can the U.K. Economy Avoid a Second Great Depression?

The economy takes many shapes and, in recent times particularly, people have been all too eager to assign a letter to the GDP drop and potential recovery.

The so-called V-shaped recovery the Bank Of England (BoE) predicted for the aftermath of the COVID-19 crisis forecast that the sharp fall already recorded was immediately followed by a sharp recovery. The Bank predicted this recovery would be quick and, as recently as June, said it had come "sooner and faster" than expected both in the U.K. and globally.

With GDP figures for the U.K. released this morning for the full second quarter showing a 20.4 percent decline, this second consecutive quarter of GDP decline means that the British economy is officially in recession.

This isn't a surprise, all but two of the G20 countries—everyone except Indonesia and China—are expected to be in recession by the end of 2020, according to EIU.

The International Monetary Fund (IMF) has already predicted that GDP will fall by 8.0 percent in the U.S. and 10.2 percent in the U.K. across 2020. Globally, it estimates an average 4.9 percent GDP fall, the worst drop since the Great Depression in the 1930s.

But how quickly Britain recovers—or doesn't—will be watched closely. This 20.4 percent drop is the largest in any G7 economy, believed to be because of the slow implementation of lockdown, compared to other countries.

A lot depends on how quickly a COVID-19 vaccine arrives, whether there is a "second spike" of cases and how quickly consumer behavior returns to "normal" as lockdown eases.

This means the economy could travel in all sort of ways that look like a number of letters, so to speak.

There's the W recovery where it recovers before falling again (likely if there is a full second spike); an L where it's not really a recovery at all with a long depression, with growth flatlining; and a U-shaped recession where the country is left somewhere between a V and an L, with low GDP for a prolonged period but then a sustained recovery.

"People are keen to throw around the alphabet when talking about the shape of the recovery—V,W,U—take your pick," Barret Kupelian, senior economist at analysts PriceWaterhouseCoopers, tells Newsweek.

"The problem is that very rarely defines what the vertical axis is. If it's a GDP recovery, it's always V-shaped, so it's a little disingenuous. If you plot the recovery over time, you're going to get a V-shape in the beginning but then it's going to taper off rather than a classic V.

Mannequins and empty clothes rails in store
Lots of stores in the U.K. have permanently closed, as the economic impact of COVID-19 really starts hitting home Getty

"For most economies around the world, it's looking like a 'kinked V' recovery.

"It turns out it's very easy to turn off the economy but it takes a lot longer to turn it on again. If you're a business, you have to re-engage with your supply chain, your customers, you've also got social distancing to deal with."

This would mean a quick decline then a fast recovery part of the way but a slower return to previous GDP levels.

The British FTSE 100, the index of the largest companies on its stock exchange, has been more sluggish in any recovery than in the U.S.

The DOW, for example, is back to around 95 percent of its pre-COVID value. The FTSE is still down at around 83 percent of its pre-COVID value and has fluctuated around that figure since the beginning of June.

But there are many more things at play than "just" COVID-19 and there are almost as many "unprecedented" issues as the number of times "unprecedented" is being used by politicians to describe the situation we are all in.

The IMF's annual economic outlook warned in 2018 that "large challenges loom for the global economy to prevent a second Great Depression" well before the novel coronavirus was even a glint in a bat's eye.

"If you look at how well the economy was doing back in January [2020], when there was no real sign of COVID in Europe, the U.K. economy grew in January by 0.1 percent month to month, which was much weaker than expected, especially those who had talked about the 'Boris bounce' [when Boris Johnson became U.K. prime minister]," Kupelian says.

"The U.K. economy entered this crisis from a position of relative weakness. The fundamental issue with the U.K. economy is the fact productivity has been low and hasn't been growing at trend growth rates. This has been a persistent issue since at least 2008. The low productivity level in the U.K. is the same as it is in Italy."

The European Commission's forecasts for Italy show a drop of 11.2 percent GDP in 2020 before a 6.1 percent rise in 2021, meaning it would still not be back to pre-COVID levels before the end of 2021 nor, most likely in the first half of 2022.

The Bank of England estimates that the U.K. in a comparable position, though their outlook has improved over recent weeks.

But there are further problems—high debt to GDP ratio, with the U.K.'s debt now higher than the whole national economy for the first time since 1963, lower than average literacy and numeracy rates, according to intergovernmental economic organization the OECD, and an aging population as migration habits change.

Britain is not alone in these problems—Italy has a higher debt to GDP ratio, for example—and with borrowing rates so low, it is difficult to pinpoint exactly how much impact these issues will have.

With so many moving parts and so many unknowns, we still don't know for certain if this "Great Depression" warned by the IMF has been stopped or hastened by COVID-19.

But there is also a little thing called Brexit looming over the horizon.

It's not so much taken a back seat to COVID-19 as had to find its own socially distanced vehicle to travel in.

While the U.K. is no longer a member of the European Union, as of January 31, negotiations around the transition agreement are still ongoing, with six rounds of these talks carried out so far.

It is not clear what the result of these talks will be but, very broadly speaking, there are two most likely outcomes:

  1. No agreement can be reached and Britain is left using World Trade Organization (WTO) rules, where tariffs on goods transferred between the E.U. and the U.K. are imposed
  2. A deal is reached, most likely at the last minute, to either continue the talks for longer or to agree on future trading and diplomatic relationships between Britain and the 27 E.U. member countries

"Before COVID, everyone more or less agreed, at least in the economics community, on what the positive and negative impact of the WTO deal would look like," Kupelian says.

"But now you've got the COVID elephant in the room as well."

The solutions, Kupelian says, are very simple to outline, if difficult to make happen.

"The three best economic policies to have to deal with where we are right now is virus policy, virus policy and virus policy," he says.

"We need to figure out a way to live with and control this virus to the best of our abilities."

This leaves so many unknowns and so many things for experts to learn before a clear picture can be painted.

With elephants seemingly in every room and letters of the alphabet needing to be explained, the current economic climate can feel a little bit like a kindergarten classroom.

Getting the British economy back on track couldn't be further from child's play for officials.