- What is Investment CrisisWhat is the long-term effect of Truss’s Economic plan?
- How does Brexit Affect the current economic condition?
The economic actions of Truss were an effort to calm volatility in financial markets, particularly the bond market, which experienced a historic sell-off on the prospect of increased borrowing, which in turn threatened to destabilise British pension funds heavily investment in UK sovereign bonds.
The yield on these bonds, which reflect the government’s borrowing cost and influence interest rates on many products such as mortgages, eased lower. The yield on 10-year bonds, the closely-watched benchmark seen as the indicator of long-term interest rates, remains significantly elevated at 4.045%, up from 3.49% before the budget.
While bond yields have indeed been rising in Europe and the US, the scale of the movement suddenly after the announcement, which was only reversed after the BOE intervention, saw analysts and investors express a firmly opposite view; and Prime Minister Liz Truss admitted Monday evening her policies had gone “too far and too fast.”
Britain has a cost of living crisis. It also has a housing crisis and an energy crisis
Weeks without rain in southern England mean there is a looming drought crisis. The NHS is only one covid-19 severe outbreak away from the crunch point. These crises are all distinct and unique in their way, but they also have a common theme: a failure to invest stretching back decades. An obsession with efficiency has meant infrastructure has been run into the ground rather than upgraded.
Britain’s crises have one thing in common: a failure to invest
The government is drawing up contingency plans for power cuts this winter as it finally wakes up to the reality of what the next few months will bring. Since 1990 the population of the UK has risen by about 10 million to 67 million, but not a new reservoir has been built in the past three decades. More than 200,000 miles of water pipes date back to Victorian times, yet water companies are replacing them at a rate of 0.05% a year. That compares with a European average of 0.5%.
Britain has the lowest rate of business investment of any G7 country, and one reason for that is the private sector has tended to prefer dividend payouts and share buy-backs to higher spending on new kit.
Mounting predictions of a national meltdown only highlight a story that should be very familiar by now: the severe and enduring problem investment in UK and a national mindset innately averse to thinking about the future.
In 2018, a report by the Trades Union Congress(TUC) revealed that private and public Investment in UK as a proportion of national income put us 34th in a ranking of 36, trailed only by Portugal and Greece. In the 40 years to 2019, fixed Investment in the UK averaged 19% of GDP, the lowest in the G7. Now, business investment in the UK remains more than 9% below its pre-pandemic level. Crucial parts of our national infrastructure had failed twice: first when they were state-owned and let down by the stinginess of the man from the ministry – and then when they became privatised victims of modern capitalism’s increasing fondness for stripping out, squeezing down, and chasing dividends.
Antoine Bouvet, the senior rates strategist at Dutch bank ING, believed the botched budget could have broader lasting effects
“I think what’s been damaged these past weeks is, more specifically, the predictability of UK fiscal policy, and it will take time for investors to forget that. There’s undoubtedly long-term damage because there’s been more uncertainty created, there’s lack of stability in policy,” Bouvet said.
The pound rallied against the dollar Monday and, at midday, Tuesday was trading at $1.1302, around the pre-budget level. But that still represents a significant drop since the start of the year, with little to support it amid predictions of a full-year UK recession.
On Monday, the British pound plunged to a historic low against the US dollar. Plans announced late last week for a 45 billion pound (about $48.4 billion) tax cut and massive new borrowing to pay for it sent shockwaves through markets. It’s caused a crisis of faith in the ability of the new British government to pull the country’s stalling economy back from the brink of recession.
“The UK economy was already vulnerable because of uncertainty after Brexit,” said David Henig, the director of the UK trade policy project at the European Centre for International Political Economy
In many ways, Britain’s broader economic headwinds are not unlike those currently being felt in the United States and elsewhere in Europe due to the lingering effects of the pandemic and the war in Ukraine: rising inflation, spiralling energy costs, and a tight labour market. But the UK has an additional Achilles’ heel—one it caused itself, Brexit.
The UK government announced this month that it would step in and subsidise energy bills for households and businesses in what may amount to the most significant government intervention in the economy in decades. The independent Institute for Fiscal Studies estimated that the move would likely cost 100 billion pounds (about $108 billion) over the next year. (For comparison, a government program to keep paying workers furloughed during the pandemic cost nearly 70 billion pounds over 18 months.)
In the near term, a fall in the pound’s value will make imports more expensive, further driving up the cost of living and inflation for an island nation that imports about half of its food, fuel, and other staples.
“This is a huge vote of no confidence from the markets,” said David G. Blanchflower, a professor of economics at Dartmouth College. “And politically, this is a disaster.”
After ten years of austerity, followed by a pandemic and the war in Ukraine, the British economy, riddled with myriad systemic issues, is stagnating—or dying a death by a thousand cuts. “The cuts are coming in thicker and faster. They used to go in by day; now they’re coming in by the minute,” Blanchflower added.
The UK’s economy is expected to take until 2024 to recover to its pre-Covid levels, driven by a slowdown in hiring and business investment.
The UK’s central bank spent much of Tuesday trying to ease investors’ fears about its bond-buying program’s scheduled end on Friday, including by suggesting that it would continue to buy gilts beyond this week, according to The Financial Times. But then Andrew Bailey, the governor of the Bank of England, warned in a speech — after the bond market had closed — that the gilt repurchase program would definitively end on Friday. He bluntly told British pension funds looking to sell gilt holdings to raise collateral, “You’ve got three days left.”
