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The Mayor of London The London Assembly

COVID-19: London macroeconomic scenarios (December update)

GLA Economics has recently published its latest macroeconomic scenarios-based forecast for London in the 39th edition of London’s Economic Outlook. We have also updated our macroeconomic scenarios publication with more information on the scenarios and their drivers. These scenarios are part of wider work on the impact of the COVID-19 pandemic on London’s economy, and they have been informed by expert consultation and existing literature on pandemics and macroeconomic scenarios[1]. The two main outcome variables are real Gross Value Added (GVA) – a measure of London’s output – and workforce jobs (WFJ) – a measure of employment. We project both variables over the medium term (to the end of 2023) and we also project GVA over the longer term (to 2031).

In this context, we have developed three main macroeconomic scenarios for London founded on three sets of plausible narratives for the economy.

  1. Fast economic recovery (an optimistic but plausible scenario)
  2. Gradual return to economic growth (the GLA Economics baseline reference scenario)
  3. Slow economic recovery (a plausible pessimistic case)

These scenarios are not definite predictions about the only possible paths for the economy, nor do they represent optimal policy responses. Instead, they rely on judgements around several key assumptions, including the effectiveness of the public health response to the pandemic, and the impact of economic support measures[2]. The scenarios also do not capture the full range of uncertainty about the future, which is likely to be much wider.

Within this framework, we can set out the narrative and key results of the main scenarios. Scenario 2 is our baseline, involving a gradual return to economic growth. At the current time it is clear that the Omicron variant of COVID-19 spreads more rapidly than previous variants, but the health impacts are not well understood. On this basis, the baseline scenario assumes that even with the spread of the Omicron variant, booster vaccinations and increased social distancing will prove sufficient to avoid a wave of severe virus cases over the winter. As London’s economy has become more resilient to the introduction of restrictions it is assumed that the recovery continues, even if growth is slower in Q1 2022. Yet high inflation, supply chain challenges and the beginnings of a structural shift of activity based on more home working all mean that the recovery slows across the second half of 2022 and there is some medium-term scarring in output.

Scenario 1, a plausible upside, involves a faster economic recovery. In this scenario, we not only assume that the Omicron variant – and any other future virus variants – are controlled without strain on the health system, but we also assume that the combination of still-loose macro policy and improving confidence allows consumers to release more of their pandemic savings and allow businesses to raise investment. This would boost demand, raising output and employment and eliminating the medium-term output scarring in our baseline.

Scenario 3, a plausible downside, assumes further strict activity restrictions are needed over winter to control a rise in severe COVID-19 cases from the Omicron variant. We would expect some policy response to soften the economic blow. However, despite these mitigating factors, new restrictions and high inflation would be likely to dent consumer and business sentiment, with increased risk keeping savings elevated, resulting in no release of pent-up demand. This would see the recovery go into reverse in early 2022 and raise the degree of scarring on output and employment in the medium and long term.

Overall, while the medium-term paths for output and employment are mostly higher now than expected at the peak of the crisis, the balance of risks remains clearly skewed to the downside. The downside potential for London’s economy is significant, with GVA in the slow recovery scenario ending 2023 over 4% below the baseline, while the upside ends 2023 a slightly narrower 3% above the baseline. The balance of risks would push even further to the downside if the highly-transmissible Omicron variant causes widespread serious illness in vaccinated individuals. The breadth of the gap between scenarios also demonstrates that uncertainty remains very high around economic conditions. As a result, while our baseline is broadly optimistic about the progress of the recovery, the broader picture of our scenarios for London’s economy is more cautious.

The main results are presented below:

Headline recovery in the medium term (2021 to 2023)

  • Under the gradual return to economic growth scenario, our baseline, London’s real GVA is expected to grow quite strongly by 6.4% this year after the easing of lockdown restrictions and a smooth end to the furlough scheme. The economic recovery will continue next year (5.0%) before slowing in 2023 (3.1%) (Figure A1).
  • Jobs will take longer to feel the impact of the recovery. Employment will tick up this year (0.2%), with moderate growth in 2022 (2.1%) and 2023 (1.2%) (Figure A2).
  • Under the fast economic recovery scenario, output growth would stay stronger for longer, with output rising 7% this year and an even stronger 7.4% in 2022, before easing closer to long-term averages with 3.3% growth in 2023. Employment would also see a much firmer rebound next year, with this year’s growth of 0.4% followed by a 2.8% rebound in 2022, before job growth eases to a moderate 1.2% in 2023.
  • Meanwhile in the slow economic recovery scenario, the output recovery largely ends this year, with still-firm 5.8% growth in 2021 followed by more normal growth of 2.0% in 2022 and 2.5% in 2023. Jobs growth also slows to its medium-term pace faster, with stagnation this year followed by growth of 1.1% in 2022 and 1.2% in 2023. These profiles do not return to pre-pandemic trends over the forecast horizon.
  • Real GVA is expected to reach its pre-crisis level in Q1 2022 in the baseline scenario (Figure A3) while WFJs only reach pre-crisis levels in Q1 2023 (Figure A4).

Figure A1: Medium-term real GVA projections, annual growth rates

Medium-term real GVA projections, annual growth rates

Figure A2: Medium-term Workforce jobs projections, annual growth rates     

Medium-term Workforce jobs projections, annual growth rates

Source: GLA Economics

Figure A3: Shape of the output recovery in London (index)

Shape of the output recovery in London (index)

Source: GLA Economics; Note: Index uses Q4 2019 level = 100. The ‘triangle’ indicates the quarter when the series reaches pre-crisis levels (if the triangle is above 100, pre-crisis levels were surpassed in the same quarter).

Figure A4: Shape of the jobs recovery in London (index)

Shape of the jobs recovery in London (index)

Source: GLA Economics; Note: Index uses Q4 2019 level = 100. The ‘triangle’ indicates the quarter when the series reaches pre-crisis levels (if the triangle is above 100, pre-crisis levels were surpassed in the same quarter).

  • GLA Economics projections for 2021 have tended to become more optimistic for output and jobs in successive iterations of our forecasts/scenarios, and the jobs recovery is now set to arrive faster due to an unexpected rebound in the first half of 2021.
  • However, the output recovery is expected to come at the same time as expected at the start of the crisis, because while the economic impact in 2020 was less than expected, this was offset by the slowdown in early 2021 due to the third lockdown.

Sectoral output recoveries in the medium term (2021 to 2023)

  • London’s economic recovery is set to vary widely across industries (Table A1).
  • While we expect firm output growth in 2021 and 2022 in much of the economy, the sectors most affected by the pandemic will see output remain below 2019 levels.
  • Examples include Arts and entertainment, where output in 2022 will still be over 10% below 2019 levels, despite growing a total 34% over two years. Transportation and storage and Construction will also lag 2019 output in 2022 despite rapid growth.
  • Accommodation and food services face a 9.9% fall in output in 2021 due to ongoing social distancing, leaving 2022 output nearly 36% below 2019 levels.
  • Other sectors are seeing firm growth despite reaching pre-pandemic output levels this year. This includes sectors that may have adapted faster to home working, such as Information and communication, Financial services or Professional services. It also includes sectors that gain from the shift of consumer demand from services to goods during the pandemic, such as Wholesale and retail trade and Manufacturing.

Table A1: London’s real GVA by industry in 2021 and 2022

London’s real GVA by industry in 2021 and 2022

Source: GLA Economics.

Sectoral employment recoveries in the medium term (2021 to 2023)

  • Workforce job projections show that London’s labour market recovery is likely to vary even more widely, with only some of the capital’s core specialist service sectors and the public sector seeing a recovery across this year or 2022(Table A2).
  • Sectors hit hard by the pandemic are likely to see jobs continue to fall in 2021 as the government withdraws key support programs such as furlough. This includes customer-facing service sectors like Accommodation and food services and Arts and entertainment, as well as Transportation.
  • A less intuitive trend is the projected fall in Wholesale and retail trade jobs in 2021, despite strong output growth. This may be due to the advance of less labour-intensive online retail acting as a brake on job growth in the sector.
  • London’s core specialist service sectors are mostly expected to see employment well above 2019 levels in 2021 and 2022, even if job growth is set to vary widely. Financial services is set for fairly firm job growth over the two years, while Information and communication and Real estate see employment fall in 2021 before staging a recovery in 2022.
  • The exception to this group is Professional services, as modest job growth this year and firm growth next year are not enough for employment to reach 2019 levels.
  • Areas of the economy dominated by public sector jobs are projected to generally remain above 2019 levels of employment as departmental spending is set to grow in real terms across the rest of this parliament (up to 2024).

Table A2: London’s workforce jobs by industry in 2021 and 2022

London’s workforce jobs by industry in 2021 and 2022

Source: GLA Economics.

Long-term projections (2024 to 2031)

  • Looking at the longer term, GLA Economics projects that real GVA levels will return to pre-crisis trends (the post-Brexit counterfactual) across the next five to six years,meaning output scarring is confined to the medium term in our baseline (Figure A5).
  • In our fast economic recovery scenario, output pushes above this pre-crisis trend as soon as next year, helping push London’s growth back towards long-term averages.
  • The slow recovery scenario sees London’s output well below the counterfactual in the long term. Heavy scarring in the medium term raises structural unemployment, cuts investment and hits agglomeration benefits, lowering long-term output growth.
  • As discussed above, these scenarios do not reflect the full range of uncertainty and there could be more downside risk in the long term associated with the city’s ability to remain as attractive and competitive as in the two decades prior to COVID-19.

Figure A5: London’s real GVA in levels (£ billion, constant 2018 prices) under all scenarios

London’s real GVA in levels (£ billion, constant 2018 prices) under all scenarios

Source: GLA Economics.

The scenario results presented in this supplement come within a context of continuing unprecedented uncertainty. Overall, GLA Economics judges that risks are tilted to the downside, especially with the arrival of the heavily-mutated and highly transmissible Omicron variant. Despite scientific uncertainty around the variant, concerns are already sufficient to prompt new restrictions, though these are comparatively light-touch for now. Other headwinds also skew risks to the downside, including rising inflation, global supply chain challenges, high energy prices and the risk of skill and geographic labour mismatches due to remote working. Uncertainty is also high around the international context and the scope for continuing outbreaks of new variants of COVID-19. Therefore, GLA Economics will continue to track the economic data in order to review these scenario outcomes in the future. Successive updates will be released on the London Datastore when they become available.

[1] See the list of GLA summaries on external research on COVID-19, which have frequently included summaries of macroeconomic scenarios and forecasts publications.

[2] For more detail on these assumptions see slides 8 to 11.