Investment Clock insights

A new PM


Melanie Baker

24 July 2019

The UK gets a new Prime Minister – Boris Johnson  – but not a new set of circumstances.
The new PM inherits an economy that has lost its sheen and, of course, a divided Parliament.  
The new PM has a mandate, from Conservative Party members at least, for fiscal stimulus and the pursuit of a ‘no deal’ Brexit if the EU will not re-negotiate the Withdrawal Agreement. Nevertheless, the outlook for the UK economy remains much as it was before, with significant uncertainty likely to linger and weigh on business investment and business sentiment; albeith with some offsetting support provided by the stimulus. We don’t expect a lasting significant improvement in the UK economic picture until, and unless, ‘no deal’ Brexit is avoided and much of the Brexit-related uncertainty is removed.
Mr Johnson’s economic inheritance isn’t the best: The UK economy is not at its most resilient. The global backdrop is subdued, euro area growth remains relatively weak and the US economy has lost momentum.  Domestically, surveys are consistent with – at best – the UK economy stagnating. Business investment growth has been subdued for some time, as UK businesses have had to absorb, and adapt to, a significant increase in uncertainty over the last few years. Brexit uncertainty has been increasingly accompanied by uncertainty around politics, global growth and trade relations.
There is resilience in the consumer sector, with households supported by higher wage growth,  very low unemployment and low debt servicing costs. However, UK savings rates are low – consistent with a limited ability to absorb shocks.  
Externally, the UK starts from a position of some vulnerability too. The UK continues to run a large current account deficit and relies on financing from overseas.
There is some room for policy support…: There is some headroom for fiscal stimulus before needing to throw away the fiscal rules (though this arguably disappears in a ‘no deal’ scenario) and the Bank of England can cut interest rates a bit and re-engage in quantitative easing (both of which would likely happen in a ‘no deal’ scenario). During the leadership campaign, Johnson promised both tax cuts (including eye-catching promises on income tax and national insurance contributions) and some spending increases.
…but, (political) uncertainty may intensify:   It matters who leads the ruling Conservative Party and country but, without a general election, the composition of Parliament still means that the majority of MPs oppose a ‘no deal’ Brexit and the existing deal. Although, in theory, MPs have limited options to stop a government absolutely determined to leave without a deal, MPs always have the option to vote ‘no confidence’ in the government. If an alternative government cannot be formed in 14-days, a general election is called. In practice, it is arguably as, if not more, likely that one of the following happens:
1. Johnson is more pragmatic than sticking to his promise of leaving the EU on 31 October “do or die”. He voluntarily ‘kicks the can’ into 2020 with the agreement of the EU for a further extension. Although looking challenging at present, it  may be that ultimately the EU is willing to offer enough flexibility on the backstop that Johnson ends up presenting an adjusted deal to Parliament on that basis.
2. The new PM gets so fed up with Parliament trying to block him that he calls a general election (which would very likely get the required two thirds majority in the House of Commons to pass), or even a referendum.
Although recent polls suggest that a general election is unpalatable to most sitting Conservative MPs, polls can change, and they are likely to change in the aftermath of the Party electing its new leader.
What to watch next: As well as polling following the leadership change, Mr Johnson’s cabinet appointments will be watched closely for signs of continuity and change. Meanwhile, with Parliament going into recess later this week, we may have to wait until September before we get confirmation of the degree of challenge he will face in following through on his promises.

The UK gets a new Prime Minister – Boris Johnson  – but not a new set of circumstances.

The new PM inherits an economy that has lost its sheen and, of course, a divided Parliament.  

The new PM has a mandate, from Conservative Party members at least, for fiscal stimulus and the pursuit of a ‘no deal’ Brexit if the EU will not re-negotiate the Withdrawal Agreement. Nevertheless, the outlook for the UK economy remains much as it was before, with significant uncertainty likely to linger and weigh on business investment and business sentiment; albeith with some offsetting support provided by the stimulus. We don’t expect a lasting significant improvement in the UK economic picture until, and unless, ‘no deal’ Brexit is avoided and much of the Brexit-related uncertainty is removed.

Mr Johnson’s economic inheritance isn’t the best: The UK economy is not at its most resilient. The global backdrop is subdued, euro area growth remains relatively weak and the US economy has lost momentum.  Domestically, surveys are consistent with – at best – the UK economy stagnating. Business investment growth has been subdued for some time, as UK businesses have had to absorb, and adapt to, a significant increase in uncertainty over the last few years. Brexit uncertainty has been increasingly accompanied by uncertainty around politics, global growth and trade relations.

There is resilience in the consumer sector, with households supported by higher wage growth,  very low unemployment and low debt servicing costs. However, UK savings rates are low – consistent with a limited ability to absorb shocks.  

Externally, the UK starts from a position of some vulnerability too. The UK continues to run a large current account deficit and relies on financing from overseas.

There is some room for policy support…: There is some headroom for fiscal stimulus before needing to throw away the fiscal rules (though this arguably disappears in a ‘no deal’ scenario) and the Bank of England can cut interest rates a bit and re-engage in quantitative easing (both of which would likely happen in a ‘no deal’ scenario). During the leadership campaign, Johnson promised both tax cuts (including eye-catching promises on income tax and national insurance contributions) and some spending increases.

…but, (political) uncertainty may intensify:   It matters who leads the ruling Conservative Party and country but, without a general election, the composition of Parliament still means that the majority of MPs oppose a ‘no deal’ Brexit and the existing deal. Although, in theory, MPs have limited options to stop a government absolutely determined to leave without a deal, MPs always have the option to vote ‘no confidence’ in the government. If an alternative government cannot be formed in 14-days, a general election is called. In practice, it is arguably as, if not more, likely that one of the following happens:

1. Johnson is more pragmatic than sticking to his promise of leaving the EU on 31 October “do or die”. He voluntarily ‘kicks the can’ into 2020 with the agreement of the EU for a further extension. Although looking challenging at present, it  may be that ultimately the EU is willing to offer enough flexibility on the backstop that Johnson ends up presenting an adjusted deal to Parliament on that basis.

2. The new PM gets so fed up with Parliament trying to block him that he calls a general election (which would very likely get the required two thirds majority in the House of Commons to pass), or even a referendum.

Although recent polls suggest that a general election is unpalatable to most sitting Conservative MPs, polls can change, and they are likely to change in the aftermath of the Party electing its new leader.

What to watch next: As well as polling following the leadership change, Mr Johnson’s cabinet appointments will be watched closely for signs of continuity and change. Meanwhile, with Parliament going into recess later this week, we may have to wait until September before we get confirmation of the degree of challenge he will face in following through on his promises.

Past performance is not a reliable indicator of future results. The value of investments and the income from them is not guaranteed and may go down as well as up and investors may not get back the amount originally invested. The views expressed are the author’s own and do not constitute investment advice. Portfolio holdings are subject to change, for information only and are not investment recommendations.