- Market update
- 5 minute read
After a tumultuous 45 days in office, Liz Truss has resigned as Conservative Party Leader. She will remain as the Prime Minister until a new Party Leader is chosen. Isabel Albarran, Investment Officer for Economics and Asset Allocation considers the economic impact of the last few weeks and the key issues to monitor.
What has been the impact of the Truss administration?
While short, Truss' time in office has had a profound impact on financial markets. The unveiling of the “UK Growth Plan” (also known as the mini-budget) precipitated a sharp fall in the value of sterling and a rise in UK government bond yields, leading to the Bank of England postponing the start of its bond-selling programme, and initiating a temporary bond-buying scheme. In response to the negative market reaction to the budget, Truss appointed a new Chancellor, Jeremy Hunt, who reversed the majority of the tax cuts announced in the budget, cut back the Energy Price Guarantee scheme and promised spending cuts later this month. While these announcements appear to have helped bring bond yields down, the outlook for UK growth is still challenged. This is in part because measures expected to boost growth have been cut, most significantly the Energy Price Guarantee, and also because financial conditions remain tighter than they were before, which is expected to weigh on the economy. Today’s events add new uncertainty and raise a number of questions.
Q1: Who will be next?
A new Prime Minister is to be appointed by the 28th October. It is not yet clear if only MPs will be involved in the selection. Given strong divisions within the parliamentary party, coalescing around a leader may not be straight-forward and that candidate may struggle to unite the party. At the moment, the field is wide open.
Q2: What will be in the budget?
The Treasury has announced that more detail from the budget will be revealed on 31st October. The timing of the leadership race is clearly designed to ensure this goes ahead but there are still uncertainties. Firstly, while we expect spending cuts, we don’t yet know the scale of these. Secondly, while Hunt has promised an update on the debt sustainability plan, we do not yet know if he will adhere to the current fiscal rules or set out new ones. Thirdly, the market reaction is not yet known. Beyond the budget announcement, there are further questions, chiefly can Hunt pass the budget into law? Given how electorally unpalatable all these elements may be, this may not be straight forward. The new Prime Minister is also sure to have a view, though a commitment to endorsing Hunt’s plans would make a sensible selection criterion from a logistical point of view.
Q3: What will the Bank of England do?
The Bank of England has two decisions coming up. On the 3rd November, the Monetary Policy Committee is to meet to set Bank Rate, with a 1% rise anticipated by markets. However, the outlook for growth has worsened and the Bank’s own forecast is more likely to predict a recession dampening inflationary pressure, reducing the need for as many rate hikes. At the same time, cuts to the Energy Price Guarantee scheme make it likely that inflation will be above 10% again in April, increasing pressure on the Bank to act to curb inflation in the near term. The Bank may be wary of cutting by less than markets expect when credibility is already shaky. On the 1st of November the Bank must also decide what to do about its bond-selling programme. Initiating sales risks a negative reaction in the gilt market, while a further delay could hurt credibility.
Q4: Will there be an election?
The Conservatives are trailing Labour in the polls, and are broadly predicted to lose seats in a general election. Given their majority in Parliament, they should have both the means and motivation to block an early election. However, the longer political uncertainty goes on, the more likely an election becomes.
Q5: What does this mean for UK assets?
The initial market reaction to this suite of policies has been muted and mixed: sterling is somewhat stronger but bond yields have edged modestly higher. This may reflect renewed political uncertainty or the fact that an election looks more likely. While today’s news is politically significant, we expect the detail of the budget and the outcome of the Bank of England meeting will have a greater impact on asset prices.