As the UK approaches Christmas, two things continue to keep the economy from getting into the festive spirit: the ongoing Covid-19 pandemic, and uncertainty over the UK’s future relationship with the EU as the transition period comes to an end.

This hasn’t stopped the Government from continuing to make plans for the future, with November’s Spending Review setting new priorities.

This Insight looks at the state of the economy as we reach the end of 2020.

Restrictions return, redundancies rise, retail reduced

The national lockdown in England ended on 2 December, but some restrictions have been re-introduced or tightened in many areas since then, and any boost to the economy from the newly approved vaccines is likely to arrive only in 2021.

Early indicators suggest that some sectors are likely to struggle until then. The Purchasing Managers’ Index for the services sector (a measure of the overall health of the sector and whether it is improving or deteriorating) was still indicating a small contraction in its early December flash release, despite a recovery from November.

A chart showing the services sector’s output and latest Purchasing Managers' Index (PMI)

The effects of the pandemic on the labour market are now also becoming more serious. The unemployment rate rose to 4.9% in August-October 2020, up from 3.8% the previous year. The 370,000 redundancies recorded over the same period was the highest level since comparable records began in 1992, although this period was before the furlough scheme was extended until March next year.

Retail sales also took a hit from the reintroduction of restrictions, with the volume of sales falling by nearly 4% between October and November. Sales levels in non-food stores had been above their pre-pandemic levels in October, but fell back to 6% below their February levels in November.

Negotiations continue as the end of transition approaches

As the end of the transition period on 31 December draws ever nearer, the negotiations over the UK’s future relationship with the EU continue. This relationship will be very important to the economy; as the chart below shows, trade with the EU makes up around half of the UK’s total trade.

A chart showing the total value of UK imports and exports, globally and with the EU

Levels of optimism over the chances of a deal have seemed to vary by the day, but European Commission President Ursula von der Leyen’s statement that “there is a path to an agreement” on 16 December led to the pound rising to its highest level against the dollar in over two years.

This level of uncertainty has not been good for the economy, and despite some recent increases business confidence remains weak, with manufacturing order books and output expectations remaining well below their long-term average. Even if a new deal is agreed, there will still likely be an impact on the economy as businesses adjust to the new trading relationship, as well as longer-term effects.

The Bank of England’s Monetary Policy Report for November 2020 reports that many businesses are not prepared for the changes, and that this will particularly affect small businesses.

Government investment spending rises as the housing market improves

Chancellor Rishi Sunak delivered the 2020 Spending Review on 25 November (you can read our summary of it here). Many of the announcements were to do with increasing investment in infrastructure, seen by the Government as a way to “level up” economic growth and prosperity.

As the chart below shows, the Spending Review was delivered when the construction industry, like all the main sectors of the economy, was below its pre-pandemic levels in terms of output.

A chart showing the construction sector’s output compared with other sectors

Although the construction sector had initially struggled relative to the other sectors, it is now starting to do better.

Its output was still 6.4% below its pre-pandemic level in October, Purchasing Manager’s Index data for November shows that the sector is expanding, with the increase in activity led by housebuilding. The housing market in general is also active. There were more than 90,000 mortgage approvals in both September and October, having last reached that level in September 2007. This is likely linked to the temporary stamp duty cut, due to end in March 2021.

Further reading

Economic Indicators, House of Commons Library.

Coronavirus: Economic impact, House of Commons Library.

End of Brexit transition: key changes and preparations, House of Commons Library.

About the author: Philip Brien is a researcher specialising in public spending at the House of Commons Library.