Transcript
Speaker: Welcome to HSBC Global Viewpoint, the podcast series that brings together business leaders and industry experts to explore the latest global insights, trends, and opportunities.
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Speaker: This podcast was recorded for publication on the 23rd of May, 2024 by HSBC Global Research.
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Speaker: Just search for The Macro Brief.
Speaker: Hello and welcome to the Macrobrief.
Speaker: I'm your host, Piers Butler.
Speaker: After months of speculation, UK Prime Minister Rishi Sunak has called a general election for the 4th of July.
Speaker: Now, the opposition Labour Party might be well ahead in the opinion polls, but the Prime Minister will be hoping that more positive recent news on inflation and the growth outlook could still give him a path to victory.
Speaker: So, with it all to play for, let's dig into the details with Simon Wells, our Chief European Economist.
Speaker: Simon, welcome.
Speaker: Hi.
Speaker: Quite a surprise, really.
Speaker: Do you think that the very latest economic data, I know we've had some positive economic data, but the very latest economic data on inflation wasn't so positive.
Speaker: Do you think that played a role?
Speaker: I think it may well have done.
Speaker: You say it wasn't so positive, but of course headline inflation still fell from 3.2% to 2.3%, allowing the government to claim that they are winning the battle against inflation.
Speaker: And it's a big fall.
Speaker: On the other hand, and what you're alluding to, is it didn't fall as far as the market had expected.
Speaker: And in particular, the key indicator the Bank of England's looking at, which is service sector inflation, really only ticked down from 6% to 5.9%.
Speaker: So it still remains pretty high.
Speaker: The result of that is the market, and indeed us, have pushed out expectations of Bank of England rate cuts.
Speaker: So whereas previously, if we had an autumn election, perhaps the prime minister could have pointed to all these things and falling interest rates, the latter is maybe looking a little dicier now.
Speaker: So while people are seeing the economy coming back to growth and inflation falling, maybe he thinks this is the sweet spot.
Speaker: So coming back to the polls and indeed the betting markets, they're all predicting a Labour victory, but the size of a potential majority matters.
Speaker: Why is that?
Speaker: Well, as you say, there's still a lot of uncertainties.
Speaker: It matters because, well, you can argue it both ways.
Speaker: If the Labour Party has a large 97-style Blair majority, then it can get on with doing more bold and radical things without fear of not being able to get them through Parliament.
Speaker: On the other hand, you might say that a smaller majority might rein in what their ability to do, and some people might see that as a good thing.
Speaker: On the other hand, a small majority may also allow a small number of Labour MPs really to hold its own government to ransom.
Speaker: And that could be a bit more problematic for the country and the economy, a bit more like what we saw, of course, under the Conservatives, under Theresa May.
Speaker: Are people underestimating the sheer scale of the swing that is required to achieve a significant majority?
Speaker: Possibly, but as you say, the opinion polls are what they are, and they say what would happen were there to be an election tomorrow.
Speaker: Now, things can change.
Speaker: But certainly, it is extremely unusual to overturn the size of a majority that Boris Johnson won back in 2019 in a single term, yet that is what the polls are indicating.
Speaker: When the Conservatives took power in 2010, the chief secretary to the Treasury left a note saying, I'm afraid there is no money.
Speaker: But as it turns out, there was more money.
Speaker: I mean, essentially funded by higher borrowing, borrowing went up.
Speaker: So could that not just continue?
Speaker: After all, when you look at the forecasts, there appears to be $9 billion of headroom against fiscal targets.
Speaker: Yes.
Speaker: Well, first of all, I think the person who left that note has subsequently said they regret it.
Speaker: But we were looking then at a debt to GDP ratio in the UK of about 66%.
Speaker: Now it's a touch under 100%.
Speaker: Back then, of course, interest rates were basically zero and the Bank of England was buying bonds.
Speaker: Now interest rates are back up substantially.
Speaker: Bank of England is selling bonds.
Speaker: So maybe, who knows, perhaps debt to GDP could rise and rise further.
Speaker: But the backdrop to servicing that debt has certainly deteriorated a lot since 2010.
Speaker: And what about coming back to this nine billion of headroom against fiscal targets?
Speaker: You argue in your report that there are fiscal fallacies associated with that.
Speaker: Can you tell us about those?
Speaker: Well, that's right.
Speaker: One of the charts in the report shows that Jeremy Hunt is meeting his own fiscal targets by the narrowest of margins relative to.
Speaker: to his predecessors.
Speaker: And even to get to that narrow amount of fiscal headroom, you are already looking at unspecified real terms cuts in public expenditure over the coming years.
Speaker: And of course, one thing whichever incoming government has to do will be to have a spending review to work out
Speaker: how that overall shrinking envelope is allocated, which will be very, very difficult.
Speaker: And of course, that is one of the flaws with the UK system is the fiscal watchdog, the Office for Budget Responsibility, has to take the government at their word.
Speaker: So if they say we're going to drastically cut spending in the future, they put that into their forecast, however likely or unlikely you or I might think it would be actually to happen.
Speaker: So the outlook is obviously for a very constrained fiscal position for the new government.
Speaker: And that leads us to potential other sources of funding, namely taxes.
Speaker: Both parties have not advocated significant tax rises.
Speaker: But as you say in your report, if history is any guide, that may not mean very much.
Speaker: Well, yes, that's right.
Speaker: One of the charts in the report, which will surprise nobody, shows that ahead of general elections, governments tend to cut taxes and after them, they tend to raise taxes.
Speaker: And against the fiscal backdrop that I've just described...
Speaker: I would wager that probably we will see a degree of tax rises after this election.
Speaker: Now, the question is where they're going to fall because the main parties have pretty much ruled out for now raising the big revenue earners.
Speaker: That's income tax, national insurance, or VAT.
Speaker: Corporation tax could be something that they may want to raise.
Speaker: But so far, Labour have only really talked about
Speaker: minor tax rises, things that are only going to raise seven to eight billion, and that ain't a lot.
Speaker: When you look at the sort of European scene, does the UK stand out in terms of its tax position, its tax take?
Speaker: Well, compared to a country like France, of course, the overall tax take of GDP is still low.
Speaker: But for the UK, it is rising to levels that we haven't seen since the end of the Second World War.
Speaker: So it depends which way you look at it.
Speaker: I think on corporation tax relative to many other European countries, the rates still look relatively low.
Speaker: And so that is an area that potentially a new Labour government might want to look at.
Speaker: And you talk about stealth tax as well.
Speaker: How does that sort of come through?
Speaker: Well, stealth tax is interesting, particularly recently in terms of what we call the fiscal drag from inflation.
Speaker: So the existing government has cut taxes twice.
Speaker: In autumn of last year, it took two pence off national insurance, which is a form of UK income tax.
Speaker: It did again another two pence in March of this year.
Speaker: Now, over the forecast horizon, that's sort of like a 20 billion pound tax giveaway.
Speaker: Why didn't this affect the opinion polls?
Speaker: Why does no one seem to be jumping up and down for joy?
Speaker: Because inflation, given frozen thresholds, has dragged more people into higher tax brackets, more people into paying tax full stop.
Speaker: The effect of that is 40 billion net tax rise.
Speaker: So really, the tax man has taken 40, given back 20.
Speaker: Net net, of course, that's the tax rise.
Speaker: Given those fiscal constraints and perhaps the lack of any significant tax increases, is it just going to be more of the same with the new Labour government?
Speaker: I suspect if we think back to what happened to Liz Truss and Kwasi Kwarteng,
Speaker: the new administration will be very careful not to be too fiscally lax, at least in the near term.
Speaker: Be very scared of a repeat of what happened in late 2022.
Speaker: Does that mean it'll be more of the same whatever happens?
Speaker: Well, even if the overall fiscal stance doesn't change that much, there are ideological differences.
Speaker: And that's what I think we need to focus on.
Speaker: Labour rights will be a big issue.
Speaker: If there's going to be any immediate surprises from a Labour government, it could be on things like modifying zero-hours contracts or fire and rehire a company's ability to do that.
Speaker: Certainly, Labour protection is one area to look at.
Speaker: But there are others.
Speaker: The Labour government has promised full renationalisation of the railways.
Speaker: It said it will bulldoze planning regulation, although of course most governments say they're going to do that, but in my career at least they've all had fairly limited success.
Speaker: And what about Europe?
Speaker: That doesn't seem to be really part of the debate at the moment.
Speaker: Well, I think there's a reason for that, which is polling shows voters are sick of Brexit.
Speaker: They don't want to hear about it.
Speaker: That doesn't mean it's not affecting the economy, of course.
Speaker: And Labour have talked maybe about a twin track approach.
Speaker: So one track might be more alignment on defence spending, more cooperation there.
Speaker: Another track might be to do something to boost goods trade, more alignment of agri-food regulations, that sort of thing.
Speaker: So I think we can potentially look forward probably to a closer relationship again between the UK and the EU under the new government.
Speaker: But certainly no one's going to be standing up saying the UK needs to rejoin in this election.
Speaker: So we talked a lot about Labour policies.
Speaker: Is anything on the Conservative side that they could be looking to announce?
Speaker: Is there any more fiscal giveaways that they could do before the election?
Speaker: Well, I think now that we've got the election on the 4th of July, the chance of another fiscal event, which we might have been expecting, has now gone.
Speaker: So, nope, I think we are where we are.
Speaker: Simon, I'm sure we'll have you back in the countdown towards the big day on the 4th of July.
Speaker: But for now, thank you very much for joining us.
Speaker: Thank you.
Speaker: Ever wonder what it would cost to buy up all the unsold property in China?
Speaker: With enough space to cover the New York borough of Manhattan five times over, there's quite a lot of unsold property.
Speaker: Tune into this week's Under the Banyan Tree podcast with me, Fred Newman, for the answer, or at least close to an educated guess as we can get.
Speaker: I've got two great guests joining me this week, Chief China Economist Jing Liu and Head of Asia Property Research Michelle Kwok.
Speaker: We'll be talking all things China property, so make sure you join us Under the Banyan Tree.
Speaker: Here are some other highlights from the team at Global Research this week.
Speaker: Fabio Balboni, senior European economist, has been reviewing the fiscal position of countries across the region.
Speaker: He says that the structural fiscal deterioration in many countries since the pandemic and the return of EU fiscal rules mean that some, notably France and Italy, could face tough consolidation challenges from next year.
Speaker: There are some signs that trade is returning to growth.
Speaker: New orders are expanding, retail inventories are coming into balance, and supply chain pressures are low.
Speaker: However, trade economist Janela Narajanagam warns us not to get too excited.
Speaker: High freight costs, port congestion, Red Sea shipping disruption, and rising protectionism all pose risks.
Speaker: And crucially, we need a sustained recovery in consumer demand to see a meaningful rebound in world trade.
Speaker: And finally, Max Kettner, chief multi-asset strategist, says there are two explanations why risk assets have more than recouped April's losses.
Speaker: Firstly, growth continues to be on a firm footing.
Speaker: And secondly, hawkish rate expectations have reversed somewhat.
Speaker: And in his latest strategy note, Max outlines the reasons why he thinks this rally in risk assets can continue.
Speaker: If you'd like more information on anything we've talked about today, then please email askresearch at hsbc.com.
Speaker: So that's a wrap.
Speaker: Thanks very much for listening to The Macrobrief.
Speaker: We'll be back again next week.
Speaker: Thank you for joining us at HSBC Global Viewpoint.
Speaker: We hope you enjoyed the discussion.
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