UK Election – Things can only get wetter

Looking at the two main parties in the UK, there is very little to choose between them in terms of policy. The Labour party manifesto is quite ‘high level’, in the sense that the declarations of policy are unsupported by even the briefest of plans, though to be fair they won’t really know what’s in the coffers until they are passed the secret key to the vault.

To my point about high level, the Labour manifesto states that “Labour’s first mission in government will be to grow our economy” and sets an ambitious goal, of securing the highest sustained growth in the G7 group of major western economies. This would involve raising the UK growth from an average of 1.3%pa between 2010 and 2019, to above the US trend rate of around 2.0%. The last time the UK posted sustained growth in excess of 2.0% was before the financial crisis, in the period 2003–07. The lag between successful economic reforms and faster growth is long. Of course, every government aspires to faster growth, though very few have achieved it. The backdrop that we have today in the UK means that task is harder than ever.

The reality is that whichever party forms the next government, they face a difficult fiscal position. Countering the effects of the pandemic and the energy crisis has forced the current government to spend, borrow and tax on a vast scale. As a result, public debt stands at its highest level in 60 years even though taxes are at their highest level in over 70 years.

The UK certainly has a mismatch in what it needs to spend versus it’s ability to pay for it. As a result, it is desperate for economic growth to pick up very quickly, and even then, it is unlikely to make a significant short term impact. However, from an investment management perspective, inflation is now coming down to within the Government’s target range, with the expectation that short term interest rates will come down. This should help kick start the economy and get the new government off to a positive start. The cake is already in the oven in this regard. So, from an investment perspective, we look forward to taking advantage of this position, hopefully taking some profits and re-evaluating the landscape over the next 18 months or so.

The pandemic and the energy crises have left the UK with a huge hangover. As a cure, the Labour party has proposed tax rises of £8.6 billion over the next 5 years, to sit on top of the current chancellors £23.5 billion. Let’s take the positives then. Surely, we are going to see improved services as a result of this tax money being spent on public services. The truth is that most of the money raised is to pay for the debts we have incurred in the past, not to reinvest into our future. So irrespective of what any of the political parties might say, the next Government will need to deliver around £18 billion of cuts to stay within our current fiscal terms. This is essentially why longer-term interest rates remain high. This is also helping our portfolios as we hold positions benefiting from the higher for longer rates.

So what are Fiscal terms and why are they so important? Well, they are the terms that influence the interest rates on our countries debt. If a Government can grow the economy within it’s fiscal framework then the cost of borrowing might come down. The opposite is of course, also true. According to the Institute for Government, no developed world economy has changed its fiscal policy as many times as the UK. This is not to say that the Labour party would do so. Lack of credibility in fiscal policy has hampered Labour historically, though this time around investment markets appear less concerned. Sticking to the fiscal rules will help build credibility. Liz Truss can explain how easily damaged and hard it is to repair.

So, if as seems likely, we have a new Labour Government next week, be rest assured that the situation is far removed from last time a Labour administration entered Downing Street in 1997. Public debt and taxes were at post war lows, and economic growth was rising rapidly. The Labour Government increased public spending from 35.6% of GDP in 1997 to over 40% in 2007. Today it sits at 45%, yet dissatisfaction with public services is rife. Improving public services, containing debt levels, avoiding big tax rises whilst also rebooting growth is a huge challenge.  No wonder Rishi forgot his brolly.