There are several threads I want to comment on in the wake of the UK general election. And from an economic standpoint, the conclusion that follows is that austerity in the UK has now lost its appeal politically. It also means lower yields for longer. Let me explain how I came to this conclusion.
First, at the start of the year, I warned that the economic risk from Brexit was now higher than it was in 2016, rather than lower as Bank of England head Mark Carney was saying. We were set for Article 50 to be triggered and a hard Brexit. I said that’s when “consumers actually do stop buying and business investment sinks” – something that would demand policy offsets from the Bank of England and from the Treasury.
A stumbling economy also means lower yields. And we see that now, with the 10-year gilt yield hovering around 1%, despite much higher inflation and a resumption of falling real wages.
Source: Bloomberg
These negative real yields are what we used to refer to as financial repression. And I believe financial repression will remain in place in the UK, as it will in Europe and Japan – despite signs of incipient tightening.
Now, with regard to the UK economy specifically, it has indeed begun to underperform. I mentioned the resumption of negative real wages. This has been particularly nasty for the UK, second worst in the EU to Greece.
CHART OF THE DAY: UK real wages – down to January 2006 levels
Very relevant to general election results pic.twitter.com/s02chBAnb5
— Edward Harrison (@edwardnh) June 9, 2017
Source: The Independent
This is beginning to have a negative effect on consumption. Data from credit card company Visa shows this squeeze on households is leading to lower spend. Real spending by British consumers using Visa debit and credit cards was 0.8% lower in May than it was in the same month in 2016. And this suggests that the poor Q1 data from the UK, in which Britain grew at the slowest rate in the G7, are not an aberration.
Moreover, the election results actually make this worse – at least as far as business investment goes. A survey taken right after the hung parliament election results showed a collapse in UK business confidence.
Source: Bloomberg
My conclusion here is that the conditions that created underperformance in the first quarter are still in place and will pressure UK wages and growth. The result will be more accommodative monetary policy than otherwise expected, and probably more accommodative fiscal policy as well.
A final note of caution here as well: Theresa May is in an untenable position politically, and that is negative for the British economy because it breeds uncertainty and instability. While the mantra of leading government cabinet ministers is that they need to get on with the job, having already laid the groundwork for what a “no deal” Brexit scenario looks like, Theresa May’s hold on power could collapse at any time.
I see the vote for Brexit in 2016 and the vote this past Thursday both as expressions by middle class Britons for more economic opportunity. In 2016, the EU was the object of scorn. This past election, the UK’s own government suffered at the polls due to middle class disenchantment. The Prime Minister’s colleagues are backing her for now, because they want to avoid a messy leadership contest just as Brexit has started. However, if things don’t change once negotiations are underway, Theresa May could find herself out of a job. And this uncertainty adds additional downside pressure to the British economy.