UK General Election Update: Uncertainty likely to continue to disincentivise investment in 2020
UK General Election enters its final phase with a Conservative majority on the cards, but with no immediate comfort for business
- We expect the Conservatives to secure a majority, potentially putting the UK on track to leave the EU on 31 January
- We also anticipate that PM Johnson will row back on his pledge not to extend the Transition period beyond 2020
- Brexit uncertainty has meant the UK missed out on a solid period for the global economy, but we expect growth of 1.3% in 2019 and 1.2% in 2020
- The main risks to our central scenario include a hung parliament which delivers a Labour Prime Minister
Heading towards a Tory majority
For the last three plus years, the UK’s economic outlook has been governed by the path of Brexit. In just two weeks a General Election will decide where that path heads next. Ever since the June 2016 referendum the UK has largely missed out on a period of decent growth in the global economy and by our reckoning, this has cost the country 2.25 percentage points of GDP growth over that period.
We currently expect the Conservative Party to secure a majority of about 30 seats. Previously, we thought the majority could be very slim, with risks skewed towards a hung parliament. But the Brexit Party’s changed position on standing in Conservative seats and the Liberal Democrats’ failure to make appreciable gains have made life easier for the two main parties.
We are now into “wobble week” i.e. traditionally the days when the Conservative Party sees its poll levels retreat – as was the case in 2017. However, Prime Minister Boris Johnson’s personal approval ratings have remained consistently stronger than those of Labour leader Jeremy Corbyn. Historically, this has been an excellent indicator for election results.
If Johnson wins, he is likely to quickly push his Withdrawal Agreement through parliament, possibly before Christmas. With that secured, the UK would be on course to leave the European Union (EU) on 31 January, with trade discussions then due to proceed until the end of the Transition period in December 2020. For markets, this would introduce at least a degree more certainty than we’ve seen and should be consistent with some modest gains in sterling. More broadly, it leaves businesses facing a continued lack of visibility.
The Conservative Party manifesto promises that there will be no extension to the Transition period beyond 2020, but it is our expectation that Johnson will break this election pledge in the first half of next year. The rush to invoke Article 50 left the UK in a weak bargaining position, and this promise risks repeating that failure. All the evidence suggests that a full trade agreement cannot be reached with the EU in that time, while a deal on goods alone would fail to address the UK’s needs. “No deal” would then re-emerge as the default option.
Should Johnson return to 10 Downing Street, his incentive to stick to his promise on the Transition period will likely fade. His plans to move to a more ambitious domestic agenda would be endangered by an abrupt shift from the current system and onto WTO trading arrangements.
This scenario does few favours for businesses, which are left with the same fundamental uncertainty over what will happen to trade arrangements post-2020. This clearly limits the upswing available post a Conservative majority, and even in the case that this manifesto pledge is gone by March, the lag in business investment would delay any effect on growth figures until the end of the year.
On the assumption that the Transition period is extended to allow time for a full trade deal to be secured, we expect growth of 1.3% in 2019 followed by 1.2% in 2020 and 1.0% in 2021. That may seem underwhelming, but against a backdrop of softening global growth, it would likely allow for the UK regaining some of the ground lost since 2016 versus global peers.
Against the prospect of more uncertainty, this election has loosened the political purse strings. While the Labour Party has made dramatic public spending pledges, so too the Conservatives had accumulated commitments which would deliver a material boost – of about £36bn, or 1.6% of GDP, by our reckoning, with at least another £12bn of investment on the table. However, Chancellor Sajid Javid appears to have refocused the Conservatives around a more conservative fiscal outlook. His spending review included a boost of about 0.6% of GDP for next year. Moreover, a change in the fiscal rules to balance day-to-day spending, excluding investment spending under 3% of GDP, points to marginally easier policy next year and scope for a little further easing thereafter. This would potentially help to offset the dampening effect on growth of continued uncertainty for business.
This means we can be reasonably confident that quarterly growth rates will accelerate, averaging about 0.4% next year against approximately 0.25% this year. That should also be enough to head off the slightly dovish tone that has entered Bank of England communications, and is likely to see the Bank begin to contemplate its “gradual and limited” withdrawal of monetary stimulus – although we do not expect this to be delivered.
We therefore expect the first half of next year to continue to be difficult for UK businesses as they wrestle with sustained uncertainty. However, fiscal easing should help lift growth.
Risks to our central scenario
There are clearly risks to our expectation for a Conservative majority. Several factors muddy the waters, including the inconsistency of constituency-level polling, the unpredictability in Leave-voting seats in the North of England and the latent threat posed by the Brexit Party and the Liberal Democrats.
One other crucial aspect is how the Leave and Remain camps end up voting more generally. There is some evidence that the decline of the Brexit Party has left some Leave voters without a home, while Remain voters are coalescing around parties with what they perceive to be less damaging Brexit policies.
Weighing such factors means that a Labour minority government is a plausible alternative to our central scenario, particularly as the Conservatives will struggle to find willing partners if they fall short of an outright majority. Although the Labour manifesto offers a raft of spending pledges, any Labour Prime Minister would very likely be restrained by Parliamentary partners. It is true that Corbyn has offered a deeply radical, and perhaps worrying, economic policy to the electorate, but it is impossible to tell from here how much of that would survive in the shake out from a hung parliament.
It is also worth highlighting that despite its safe, even bland recent manifesto, the Conservative Party is itself offering an economic policy that is just as radical if not more so. The only difference is that we have become used to calling their radical economic experiment by its own name: Brexit.
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