The Autumn Statement, in which Chancellor Jeremy Hunt outlined his plans for £55 billion of measures to reduce the UK’s fiscal deficit, seems to have had a cautious welcome from the markets. Wealth management specialist Jason Stather-Lodge pictured, managing director of OCM Wealth Management, assesses the Chancellor’s statement but warns there may be further pain to come.
THE ECONOMIC backdrop facing Chancellor Jeremy Hunt was one of uncertainty and unease with the UK economy confronted by 11.1% inflation, an inevitable recession and the urgent task of restoring financial credibility to the government.
Mr Hunt was facing a £33 billion current account deficit at a time when consumer disposable income continues to be eroded and millions of Britons already grappling with a cost-of-living crisis.
All eyes were on him and how the new Conservative leadership team would put forward a plan to support low-income households, balance the books and at the same time restore credibility to the government following the disaster of the September mini-budget.
The Chancellor pictured did not disappoint and managed, through sleight of hand, to achieve his aims with a tweak here and there coupled with freezing tax allowances and some new energy profit levies. The result was a mini budget that announced £55 billion of fiscal tightening with the aim of reducing the fiscal deficit over the next five years, with 51% of the fiscal squeeze being driven by tax hikes and 49% by spending cuts.
While the headlines will point to a plethora of tax rises and spending cuts, Mr Hunt has loosened fiscal policy over the next two years, cushioning the impact of the coming recession, with the tightening occurring in the four years from 2024/25.
The onus is therefore back on the Bank of England to tame inflation and bring it back to the 2% target.
Although the £55 billion package of tax hikes and spending cuts was as expected, it forms the largest tightening of fiscal policy since Mr Hunt’s predecessor Georges Osborne’s ‘austerity’ Budget in 2010, highlighting to markets that the partnership of Rishi Sunak and Jeremy Hunt will take their financial discipline more seriously than their predecessors.
The immediate aftermath of the autumn statement saw investors give a tentative seal of approval to the budget. The pound fell over 1% but remained well above September’s all-time low and not far below the recent three-month high.
This is a massive contrast to what was seen with Kwasi Kwarteng’s budget, with the rally in the run-up and a muted reaction suggesting that this government has restored a level of UK credibility.
With almost 30% of UK government debt being held by foreign investors, the muted response within the gilt market indicates a seal of approval from investors in relation to the path laid out by the Chancellor.
The involvement of the Office for Budget Responsibility, which presented fiscal forecasts to accompany the plans laid out by Hunt also helped to reassure investors as the budget appears to have been designed to avoid any potential shock to sterling or gilt markets.
With inflation running at a 41-year high alongside a need for fiscal restraint, a return to austerity is likely to add further pressure on the economy as consumer spending falls and consumer confidence levels remain near record lows. The OBR has laid out expectations for the UK economy to shrink by 1.4% in 2023, with the Bank of England expected to take interest rates up to around 4% to restore stability to consumer prices.
With energy prices contributing to higher-than-expected headline inflation levels, consumer focus was on the energy price guarantee which is helping to shield households and businesses from price shocks. An announcement to slightly reduce the level of protection on offer from April 2023 will be a concern to many, as annual household energy prices are set to increase up to £3,000, further squeezing disposable income levels, dragging additional consumers into energy poverty.
Without the current levels of government support, headline inflation levels are expected to have risen to around 13.8%, highlighting the impact that a reduction in support could have moving forward. With it we are now expecting inflation to fall considerably in the second half of 2023 which will when it happens make everyone feel better.
As a result of the rising cost of living, combined with fiscal restraint and slowing economic growth, many analysts now believe the UK is already in a recession which they anticipate lasting for four straight quarters, with unemployment set to increase to almost 5% by the end of 2024, indicating further pain to come.
OCM WEALTH MANAGEMENT: OUR VIEW
We believe that what the Chancellor managed to achieve was positive in the short term, noting the market reaction has been positive. He has pushed most of the cuts out to after the next general election, so managing to convince the wider market that the Conservatives were back in control.
If that was the aim, it has therefore been a success.
There are, though, many critics and many – including us – that believe that he should have gone further in simplifying the tax system. But as we want economic stability first and foremost and that is how the market has reacted, we are happy and accept that paying more tax is required to balance the books.
In summary, Liz Truss and Kwasi Kwarteng are now firmly destined to be remembered for all the wrong reasons in historical trivia and Jeremy Hunt and Rishi Sunak have managed to redeliver credibility in the short term.
The challenges facing the Chancellor will be vast in the coming years with fiscal tightening and we have to hope that we do not see a heavy rise in unemployment above expectations and growth below expectations – that will have deep consequences for the UK economy and the level of borrowing resulting in a deeper, longer recession.
The ability to spend to stimulate economic growth rests heavily on the Bank of England’s ability to bring inflation back to target, although this requires the government to show a level of solidarity to ensure that the interest rate hikes are not offset by increased fiscal outlay.
We are definitely on target for interest rates in the UK to reach a peak of about 4-4.5% (better than six weeks ago when forecasts briefly hit 6%) in 2023 but the expectation is that inflation will fall in 2023 and employment will remain strong (compared to historical reference points) despite the headwinds.
If that comes true then we can realistically say the economy has normalised and the era of cheap money and no inflation has ended.