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Autumn Statement: Investor’s analysis
Sunak’s government is attempting to strike a balance of not overly tightening into a recession while keeping policies in place that gives the market comfort that the UK’s debt to GDP ratio will come down in future years.
Chancellor of the Exchequer Jeremy Hunt held his first fiscal budget mid-November, where he unveiled a series of tax rises and spending cuts aimed at raising billions of pounds to help repair the nation’s finances. Following former Chancellor, Kwasi Kwarteng’s mini budget, which sent sterling plunging and borrowing costs soaring, it is no surprise that Jeremy Hunt prioritised stability in his Autumn Statement, repeating the phrase “sound money” throughout the budget.
Prime Minister, Rishi Sunak’s Government is committed to bringing down debt over the next four-to-five years, but fiscal policy will remain generally supportive in the next two years, something the Office for Budget Responsibility indicated would lessen the impact of the looming recession.
Sunak’s Government is attempting to strike a balance of not overly tightening into a recession while keeping policies in place that give the market comfort that the UK’s debt to GDP ratio will come down in future years.
The biggest income from tax rises will come from freezing of allowances and thresholds for income tax, national insurance, and inheritance tax until April 2028. More people will pay more taxes because of the effects of inflation on pay rises over time, and in fixing tax bands, a greater proportion of pay will be captured at higher tax rates. Other measures include lowering the threshold for the top 45% rate of income tax to £125,000 from £150,000 and cutting tax-free allowances for dividend and capital gains tax next year and in 2024.
In another shift from the previous government, The Chancellor said he had “no objection to windfall taxes if they are genuinely about windfall profits caused by unexpected increases in energy prices”, adding that any such tax should be temporary and not deter investment. He announced windfall tax on profits of oil and gas companies rising to 35% from 25% through March 2028, and a new temporary 45% tax on electricity generators. These measures will generate an extra £14 billion.
Hunt confirmed the government would push on with the new Sizewell C nuclear plant, which will generate “low-carbon power to the equivalent of 6 million homes for over 50 years.” It should be noted that this is not expected to be completed until 2033 at the earliest.
While public service spend is increasing in relative terms, cuts will be felt across sectors due to inflation. Education and the NHS will be relatively protected, though will still experience cuts in real terms.
In addition, it is expected Sunak’s government will confirm pensioners’ benefits will rise in April in line with inflation, and he will protect the triple lock for pensioners. (Under the triple lock, the state pension increases each year in line with the highest measure of inflation, wages or 2.5%.)
The energy price guarantee, which was set at £2,500, will rise to £3,000 in April.
Hunt is trying to maintain capital expenditure on research and development. We highlight this only because these tend to be areas the government cuts when times are tough. These measures will be supportive for growth in the long run. The government also underscored its commitment to infrastructure spend, another net positive for long-term growth.
What will the impact be on the UK economy?
It is clear Hunt and Sunak believe that to bring stability to UK finances, fiscal policy needs to be conservative. With a government that is fiscally tightening, there will be less pressure on the Bank of England (BoE), which should lead to less aggressive rate hikes. This has been reflected in recent BoE communications.
The fiscal stability, reducing government bond volatility, along with a softer potential path for UK interest rate increases, should assist in bringing down short-term mortgage rates, which will be welcome relief to those with mortgages for which just under 50% of UK mortgages are thought to be on 2-year fixed rates or less (including variable rate).
Since announcing the reversal of the previous Chancellor’s mini-budget, government borrowing has dropped, the pound has strengthened, and government bond yields have stabilised. Unofficially, the UK is in a recession which will be confirmed by incoming data in due course. GDP will fall by 1.4% next year, according to the Office for Budget Responsibility (OBR), hopefully returning to growth in 2024.
The argument put forward by the OBR is that a near-term ‘boost’ in spending will soften the recession and should keep people in their jobs. Unemployment is expected to hit 4.9% in 2024 before falling to 4.1%. Crucially, while the spend for the next two years will increase, borrowing will be more than halved by 2028.
Economically, the UK’s outlook is poor. However, there are some positives to take away following Hunt’s budget. Greater stability in British finances, along with more interplay between fiscal and monetary tightening, means that the odds of a severe financial crisis in the next 12 months has been reduced. A great deal of pain was priced into the markets just a month ago and given the financial assets we invest in are forward looking in nature, they broadly reflect much of the 2023 recession in current valuations, according to our estimates.
The global economic picture, with inflation, rising interest rates, the energy crisis and potential reopening in China, will likely affect UK markets to a greater degree. Government and corporate bond yields are much more attractive now, as are equity valuations. As such, we have taken steps to reduce our underweight allocation to these assets and boost portfolio risk to capture opportunities that increase our clients’ long-term returns. The budget announcement has not changed our thesis—rather, it has reaffirmed we are moving in the right direction.