9 Aug 2024
Just the other day, or rather in November 2017, I wrote a post entitled “Prepare to turn left”. After the global financial crisis the UK had endured seven years of “austerity” according to a narrative that was becoming widely accepted as fact. Theresa May’s Conservatives were enfeebled by her hapless attempt to add to her majority with a surprise election (she lost her majority).
This sounds very familiar now but then it was mildly surprising that the Tories didn’t dare attempt any traditional Conservative policies, such as tax cuts, to entice investment. Instead Mrs May decided that her legacy would be to sign the Net Zero abomination (other views are available) into law in order to sabotage any attempts by her successors to spare its innumerable victims. The legislation was waved through in 2019 despite her own Chancellor, Phillip Hammond, saying that it would cost £1 trillion.
With no apparent motivation to challenge the prevailing coalition spirit that had prevailed since 2010 (and endures to this day) I wrote that the Conservatives were doomed to be their own opposition. Below is what I published then and I am delighted to reproduce it now (my new highlights) because the chances are that we have just elected a new government of comparable weakness.
So what does a weak Conservative government do in these circumstances? The answer follows two left wing agendas. First, it interferes in private sector businesses to combat perceived unfairness, but with little regard for the unintended but arguably predictable consequences. This has already happened in the case of private landlords and energy companies. The curious strategy appears to consist of little more than trying to ensure that the provision of housing and energy are as unprofitable as possible.
Perhaps there are sound ethical reasons for this but one sure consequence is that investment is discouraged. Why commit capital to an area where the government has a record of applying penalties, apparently motivated by the wish to punish rather than the need to generate tax revenue? Discouraging investment is not a practice normally associated with Conservatives. So perhaps the second left wing policy can compensate – direct investment by the government itself.
The new Starmer government is horribly indebted yet wants to encourage investment and growth – essentially it is the universally maligned Liz Truss experiment recast as consensus. A £7 billion National Wealth Fund has been announced. This will invest in “the industries of the future” (as opposed to retrospective investment, which is sadly impossible, though it would be much better informed and safer).
BORROWING
Let us now look at the national debt.
In 2008, as the global financial crisis began, UK national debt was 36% of GDP*. By 2010, as the Tory/LD coalition took over it had risen to 65%. Following the bank rescues, funded by the first major episode of QE, it had risen to 80% in 2019. Covid lockdowns and furlough payments required a doubling of QE after it was supposed to have finished. National debt is now 101% of GDP.
*source : OBR/ONS
The years 2010-24 are routinely referred to by left-wing commentators as the era of “Tory austerity”. I wonder what profligate waste would have looked like. Today’s breaking news is that the new government has just discovered a £21 billion “black hole” in the public finances left by the unfunded austerity spending of the Conservatives. Well, I never.
To an extent, Labour begins in an atmosphere of expectation. England’s junior doctors have gone on strike eleven times in pursuit of a pay increase said to add up to 35%. If anything gladdens the heart of members of the outgoing government it will be this bequest to its successors.
History suggests that pay settlements are like dominoes. As far as the outlook for wage inflation goes, this is a biggie. The teachers and the nurses are reportedly now in the queue for increases well above the reported current rate of inflation (2%).
There are many reasons why this matters but perhaps the most important is the potential inflationary impact on the cost of servicing the country’s debt. In 2020-21, debt service costs were only £25 billion due to artificially low interest rates, engineered by the Bank of England. In 2023-4, those costs had normalised to £105 billion. In addition, the Treasury still owes upwards of £50 billion to pay for the losses incurred by the Quantitative Easing programme.
£105 billion is obviously a significant sum, representing 3.9% of the country’s gross debt (£2.72 trillion). Equally clear is that any increase in this rate of interest would be extremely awkward for Labour’s budget plans, especially given that national debt is destined to keep growing.
There is a muttered consensus that interest rates will fall. There is a good chance that this is wishful thinking. Cost-push inflation – from rising prices of e.g. raw materials and labour – will tend to push up the cost of money. If a business or a government needs to borrow to cover rising operating costs, it will inevitably be regarded as a growing risk to the lender and the interest payments will rise in consequence.
Rising central bank rates are the classical answer to demand-led “exuberance”. The chance of that kind of exuberance at present seems a remote contingency, so the Bank of England is likely to be little more than a spectator. Indeed, Labour’s Chancellor Rachel Reeves describes her own approach as “securonomics” which, to those who were spectators of England in the recent European finals, sounds rather like the safety first method of constantly passing back to the goalkeeper.
Izabella Kaminska characterises “securonomics” as modern supply-side economics (MSS).
Much like post-war Keynesianism, MSS is anchored in the view that government is better placed to direct industrial strategy and competitiveness than markets are, as well as to alleviate social inequalities by reconfiguring the economy for a new age. Similarly to Keynesianism, it also preaches that free markets should be constrained and repressed when they have to be, to better mobilise capital for “national interest” causes or to inflate away large debt stocks in moderation.
Source: The Blindspot
I am sorry to say that some form of financial repression as happened in the last fourteen years looks likely. This is where savers can earn only negative real interest rates because returns on private capital are forced down. But what was possible when national debt was 50% of GDP may be much harder when it is over 100%. Government debt relief through inflation looks much more likely, however disastrous that seems.
Wage growth is a driver of inflation. The left drifting Conservatives became converts to raising the minimum wage. For over 25s it rose by 28% over three years, from £8.91 in 2021 to £11.44 in 2024. UK average weekly earnings over the same period were up by 19%.
It may be laudable to force employers to bias wage increases towards the lowest paid but it will surely have mixed consequences. Labour wants to introduce the uniform (presumably higher again) minimum wage for anyone over 18. The party ran for election with the slogan “Make work pay”. At first glance, who would argue with that as an aspiration? Unless it is restated as “Make employers pay” which is essentially what it means.
Pushing up wage costs for employers is a strange way to seek low inflation and private investment – it seems quite possible that it will achieve exactly the opposite.
As an investor I am attaching a high probability to the continued growth of the national debt and continuing problems with inflation. As such, I will demand a good price for lending my savings to the state. In other words, I am not now a fan of the gilts market, especially the long-dated end. If we lend today to the UK government for 10 years it will pay us an interest rate of just below 4%. No thanks. I got 9% back in 1991.
HOUSING
The market that Labour seems most confident about manipulating is housing. It has a target of 1.5 million new homes over five years. This is perhaps a throwback to the 1945 government which had a country to rebuild and was able to commandeer every resource due to its perpetual Emergency Powers Act but it is more disturbingly reminiscent of the last Labour government which nearly destroyed the UK housebuilding industry by its attempt to game house prices by encouraging over supply.
The post-war governments built a great number of homes, many of which were once called council housing, now social housing or “affordable” i.e. subsidised. Much of this was devolved to local government (hence, perhaps its dubious quality) which was able to benefit from the fact that many of the raw materials had been nationalised and crucially, that local government was able to borrow from central government on favourable terms while using the income from future rents as security.
But things are very different now. House building and much land with planning permission is in the hands of private companies that are unlikely to endanger their financial security in pursuit of government targets again. Memories cannot be so short. Here is a quote from the Taylor Wimpey 2007 annual report (shortly before its share price dropped by 99%):
“The UK housing market continues to exhibit a structural undersupply of new housing against Government projections of household formation, providing support to the market in the long term.”
Despite the endless consensus about the need for more homes, the housebuilders have been proceeding cautiously. Last year, Persimmon reduced its completions by a third, a fact that might shock people who think that nothing could be more obvious than the need to solve the “housing crisis” by building, building, building. “Build it and they will come” is not the motto of an industry that wishes to stay solvent. “Show me the money” is more like it, especially when mortgage costs have been rising.
Moreover, much of local government is already wobbling towards the edge of the financial rapids and could scarcely make a convincing case to become a new huge borrower in pursuit of building targets, an area in which it may be assumed to have an absence of expertise (to put it kindly as I can).
I am utterly incapable of seeing how the government can “build” 300,000 homes (or 370,000 a reported upgraded number) a year. It is entirely understandable that Angela Rayner was told (by Kemi Badenoch in the House of Commons) that she has been stitched up and made the fall guy. Rayner has been given the department for local government and “communities” (known as the Levelling Up department under Boris Johnson) but its shiny new title is the Ministry of Housing, Communities and Local Government. Do you see what they did there?
The implication is that the house building requirements will be devolved to local government which will have to deal with “Nimby” constituents in the way that new demands for electricity pylons are being made to rural residents in Suffolk who will see 100% of the environmental vandalism and none of the benefits.
Whether it be Rachel Reeves commanding the economy to grow, Angela Rayner ordering 1.5 million houses or the hapless Ed Milliband decreeing that the countryside must be despoiled in the name of helping the environment, there is a common theme that if it be commanded it will be done. Oh, the thrill of new power.
In probability, none of these is likely to happen without some ruthless emergency powers. It troubles me to say that recent governments have been more than willing to discard liberty in the name of the greater good. When in opposition, Labour said nothing about lockdowns, the rigging of the gilt market and school closures other than mild complaints that there weren’t enough of them.
Given Labour’s majority it could be tempted to introduce Draconian laws that deprive people of their right to save or spend as they wish or to treat their assets in the way that they please.
I will not be investing in building companies. There is too much risk that they will be blamed for missed housing targets and punished in some way. At the extreme their assets could be regulated or even seized.
I have assumed that this will be a weak government, despite its huge Parliamentary majority. If Keir Starmer can be said to have a popular reputation it is for indecisiveness and a lawyerly instinct not to see both sides of a case. Labour will probably try to placate its supporters with extra spending and, of course, borrowing. It will grab for the fix of putting money in pockets while mildly persecuting those such as middle class parents and the comfortable retired who are not seen as Labour’s natural constituency.
As such I anticipate an upbeat feel to the consuming part of the economy. It should be good for dominant retailers and innovative travel companies. I already own shares in supermarkets (Tesco, Sainsbury), lifestyle businesses like Pets At Home, Wetherspoons and Kingfisher and Easyjet and OnThe Beach. All of these have strong balance sheets (not too much debt and benign pension liabilities) and should be able to cope with the risk that interest rates will not fall.
What are the chances that Labour takes a sharp authoritarian turn? On social issues such as free speech, freedom of movement, feminism and education it seems rather anti-libertarian. But explicit attacks on ownership rights and investment choices would be something else entirely. At that point we would be challenged with protecting our assets and probably moving them into other legal jurisdictions. In more ways than one, I don’t want to go there right now.