This article first appeared in the Telegraph
The subdued reaction of the currency, bond and equity markets to Labour’s radical manifesto says one of two things. Either the City is pinker than it seems or investors think there is little chance of Jeremy Corbyn being the next Prime Minister. The first is unlikely, the second risks looking complacent, but on balance it is probably a sensible conclusion.
Whether you look to the pound, the FTSE 100 or the yield on Gilts, the markets have shrugged their shoulders at the most left-wing economic agenda in nearly 40 years. Sterling remains close to a six-month high, shares continue to look beyond our shores at a recovering global economy and easing trade tensions, and the four-decade-long bull market in bonds remains intact. Nothing to see, move on.
Businesses and wealthy individuals may shudder at the prospect of the Corbyn/McDonnell agenda, but the markets are telling us to relax. The odds on it being delivered remain long.
The first election I got to vote in was in 1983. There are some similarities between Michael Foot’s ‘longest suicide-note in history’ and the latest manifesto proposals. Foot’s ‘New Hope for Britain’ also included proposals for higher personal taxation and the renationalisation of recently-privatised industries. There are differences, too, of course. Labour was clear in its opposition to the EEC back then, while Brexit is now Corbyn’s Achilles heel.
Were the publication of the 2019 manifesto to mark a shift in the polls, as happened in 2017, the City’s sang froid might start to look premature because there is plenty for business and higher-earners to worry about.
The principal concerns for the stock market are: the nationalisation of rail, mail, energy, water and part of BT; a windfall tax on the oil industry; the expropriation of 10% of large companies’ shares over a 10-year period; a hike in corporation tax from 19% to 26%; and the threat to delist companies that fail to live up to climate change commitments.
The nationalisations would be difficult, expensive and time-consuming. However, markets would quickly price in the threat and the likelihood is that investors would not hang around for long to discover how big a discount to pre-election market value they would need to accept.
The oil windfall would be extremely damaging to pension funds and other income-focused portfolios that are naturally heavily exposed to a sector that forms a large part of the UK market and offers some of its most attractive dividend yields.
Tax would be the most immediate threat as it could be implemented overnight. De-listings would be a slower burn but an insidious drag on sentiment and trust. Who would want to invest in a share whose right to list was at the whim of Whitehall?
Despite the fact that three years of Brexit uncertainty has rendered the UK uninvestable to many overseas investors, Labour’s corporate plans are still likely to lead to market weakness even if some of the damage would be offset by a fall in the pound. Weaker sterling would cushion the blow for overseas earners and exporters.
Equally at risk is the bond market, where yields and prices look stretched. Bonds are badly positioned for the kind of expansion in government spending implied by Labour’s manifesto commitments. These might see managed expenditure rise from around 38% to 44% of GDP, which would be perhaps the biggest ever peacetime increase, albeit one that would only bring Britain up to European levels of spending. It is implausible that the £83bn increase could be funded by higher taxes alone; borrowings would have to rise to plug the gap.
The hit to market sentiment from these corporate and funding measures would be exacerbated by the blow to individual investors’ personal finances from higher income and capital gains taxes. Although the Labour manifesto is pitched as a defence of ordinary workers against billionaires and bankers, it won’t feel that way to those earning just over £80,000 who now find themselves in the higher-rate band. Anyone sitting on unrealised capital gains will blanch at the prospect that CGT could rise overnight from 10% or 20% to as high as 50%.
As Michael Foot did in 1983, Jeremy Corbyn may come to rue the moment he was encouraged to overplay his hand. One reasonable interpretation of Labour’s 2019 manifesto is that it represents a missed opportunity.
Unlike in the early 1980s, just four years into Margaret Thatcher’s tenure and faced with a Conservative party riding a wave of post-Falklands euphoria, this should be Labour’s election to lose. It is challenging a government that has failed to deliver Brexit and which must defend nine years of austerity to an electorate that’s weary of penny-pinching.
If ever there were an opportunity to present a balanced centre-left proposal for sensibly-funded increases in public spending, partnering with business to tackle the climate crisis, that is open about the need for moderately higher taxes across the board while taking the opportunity of historically low borrowing costs to fill any remaining gaps, that time is surely now.
There is plenty in Labour’s manifesto for the middle ground that swings elections to applaud. But Corbyn and McDonnell have waited so long for the opportunity to reshape the British economy that they have preferred to let compromise and moderation be cast aside in the name of ideological purity. The result is a manifesto that feels a step too far for most people outside the Labour leader’s inner circle.
In the short-term investors will raise a cheer as Jeremy Corbyn slides the ball past the open goal. On deeper reflection, they may regret the fact that the choice they have been given is between two apparently damaging economic outcomes. The market reaction may simply reflect the fact that this Hobson’s choice is already priced into our deeply-out-of-favour market.
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