16 Oct 2023
The UK political scene is changing. At a simple level this is shown in opinion polls which indicate a large lead for the Labour Party. It could also be seen in the confidence of electoral success evident at the conferences of the two leading parties.
The Conservative Party is divided and is struggling to present a clear philosophy whilst the Labour Party has coalesced around a left of centre, managerial approach – much more akin to Blairism than Corbynism. However, there are deeper trends at work which have implications for politics and economics over the medium term.
First, there is a growing acceptance of a larger role for the State in society. This trend significantly predates Covid but was given a big boost by the interventions undertaken. For some Brexit supporters, breaking free from EU regulation was an opportunity to shrink the State. Unfortunately, from their perspective, the coalition put together to deliver Brexit was based on contradictory principles. The 2019 General Election result showed that within the Conversative Party the interventionist wing was on top. But this just represented the shift that has occurred in public thinking. The electorate expects more State involvement and whilst Prime Minister Truss tried to push back, it was not just the markets that disagreed – there was little public support either.
Voting patterns are also changing. This is seen at two levels: generational and gender. The middle aged are not leaving behind their early preference for left of centre policies. Previously, attitudes shifted rightwards as voters grew older; this seems to be happening much less now. On the gender front the change is even more remarkable. Women are moving leftwards in big numbers. For most general elections in the 20th century women were more likely to vote to the right. In 2017 and 2019 this was not the case – and the current differential between male and female voting intentions is stark.
So, what are the implications? The outcome of the next UK general election is not a foregone conclusion. However, weighing up probabilities, it appears highly likely that the Labour Party will come out on top. From a spending perspective there is little room for manoeuvre. Bond markets will wobble if Labour spending plans are ratcheted up. Should that bother a new government? The short answer is: yes. For most of the period 1997-2010, the last period of Labour Party rule, UK debt / GDP was in the range 30-40%; it is now 100%. A sell-off in government bonds raises future borrowing costs but also directly impinges on the cost of quantitative easing – meaning more transfers from the Treasury to the Bank of England and less money for other things.
To make matters worse, the present growth outlook contrasts unfavourably with 1997. Then, Prime Minister Blair inherited a recovering economy with public finances in good shape. From my perspective, the UK long-term growth rate is now sub 2%. Immigration may contribute to higher growth – through a larger workforce – but it is productivity that needs to improve.
To deliver on their plans I see higher taxes ahead under Labour. The key question then becomes whether the State can spend and invest more wisely than consumers and businesses. If it can then productivity will improve and if it cannot growth will suffer and the pressure on key services will increase. Indeed, I see questions being asked about the adversarial nature of Parliament, based upon the first past the post voting system. Society has changed but Parliament has not, and is a form of medieval theme park. Long-term planning on how the State uses its resources will need more consensus. Two things I can see happening include: a move to Proportional Representation, and a realignment with the EU, resulting in a form of looser membership.
It is not just in the UK that old political certainties are changing. In Europe new parties are superseding incumbents and, in the US, the two leading parties are hardly recognisable from their previous incarnations. And whilst the US remains the global leader, its predominance is waning – both through its own choice and the rise of new powers. The world’s axis is shifting to Asia, with its high population, growing affluence, and the flexing of muscle. Global capitalism is continuing to show its ability to raise living standards. From a western perspective, higher global growth is a good thing but declining relative standings will be uncomfortable.
On the markets, the big data release was US inflation. Consumer price index stayed flat at 3.7%, a slightly higher out-turn than consensus. However, the core rate fell from 4.3% to 4.1%, matching expectations. We now also have to look at super core, which strips out housing, given the attention ascribed by the Federal Reserve. Here the news was disappointing, indicating that goods and service inflation remains problematic. Investors are still pricing a peak in rates around these levels – but are now expecting a shallower profile of cuts through next year.
US treasury yields fell 20 basis points (bps) over the week as the distressing events in Israel and Gaza gave a bid to lower risk assets. German yields declined more modestly, whilst the fall in UK rates split the difference, seeing 10-year yields at 4.4%, a 10bps decline over the week. For the most part there was a weaker tone in investment grade credit markets, with financials under pressure. However, sterling credit spreads remain towards the lower end of their 12-month range and have coped well with the recent resurgence in geopolitical risk. High yield markets were more buoyant and spreads declined last week.
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