News, Politics

A hung parliament would cause little economic damage

A hung parliament would cause little economic damage
April 16th, 2010
Author: Dominic Dean aka The Misplaced Economist

The excitement of last night’s first TV debate – I’m not sure who that bloke on the left was, but he was very good – has breathed new life into the election campaign. And with the Lib Dems standing to benefit most from this new form of political porn, the odds of a hung parliament are shortening all the time.

Would this actually be a bad thing? There have been several doom-mongers warning that UK interest rates would jump skyward, and sterling would plummet, if no single party was in overall control on May 7.

Don’t believe them. As a macro economist, I cover several countries other than the UK – and, believe it or not, coalition governments exist in lots of other places, and not just in policy vacuums. UK politicians may not like the idea, and are certainly less used to working together, but coalition, by itself, may not have much impact on the markets. Apart from anything else, financial markets are famously supposed to be ‘forward looking’ – they focus on where the economy will be tomorrow, and next year, rather than just where it is today – so the increased likelihood of a hung parliament should already be ‘priced in’ to UK yields (long-term interest rates) and sterling, at least to some degree. Ten-year gilt yields in the UK are currently around 4% – significantly below their normal 5.5%-6% level. Let’s not get scared yet.

What a hung parliament could do, of course, is make it that much harder to push through the fiscal retrenchment measures that are necessary. Whoever forms the next government, public spending will have to be cut – and taxes will have to rise too. Those same doom-mongers focus particularly on the UK’s credit rating here – warning that we could lose AAA status, and end up in the same boat as Greece.

Again, these concerns are vastly over-egged, generally by people who don’t know what they are talking about. These individuals are generally known as ‘politicians’ (collective noun: a sham). Yes, the UK has a massive hole in its public finances. And yes, if fiscal consolidation is delayed then the UK could be downgraded from AAA to AA+ or AA status. But this is not necessarily a big deal. Spain was downgraded from AAA last year, and still raises money on financial markets at low interest rates with no problem (and the Spanish economy arguably faces bigger challenges than the UK). Italy’s credit rating is just A+ with S&P – fully four levels below the UK – and has a much bigger debt stock. And while Greece will definitely now need external aid, its credit rating is even lower, hovering just one level above dreaded ‘junk’ status.


As BoE Governor Mervyn King rightly said last year, the pace of fiscal consolidation must depend, critically, on the economy. If we get a sudden boom (unlikely), then by all means the Treasury should cut spending, and maybe raise taxes, a bit more quickly. But if we see a weak and protracted recovery – which still seems odds-on, even if we get a quarter of trend growth in Q110 – then the deficit should be reduced much more slowly. Fundamentally, being downgraded a notch or two – which again could have only a small impact on UK yields, as a downgrade is already partially priced in – would be far preferable to withdrawing money too quickly, before the private sector has started generating jobs, which really could tip the economy back into recession. Put simply, AAA status is not worth preserving at all costs.

Not, mind you, that the parties are currently grappling with this debate at the moment. To be blunt, the £6bn squabble in the past couple of weeks is really neither here nor there against a deficit of more than £160bn. But with politicians scared of telling the truth about the spending cuts we will see – they really do need to be brutal, if not immediate – and grumpy Brown and plastic Cameron desperately trying to work out how to with cope with that nice chap in the yellow tie, the truth is unlikely to play much of a role in this election.

Interesting? If so please COMMENT BELOW & Like, Tweet and +1 it to your friends!!

---------------------------------------------
Visit our Amazon Store
Get our FREE newsletter HERE
The Economic Voice on Google+
Why not use one of our Widgets on your website?
Click here to get Oil and Energy Insider
---------------------------------------------

Comment Here!

comments

Tags: , , , , ,

3 Responses to “A hung parliament would cause little economic damage”

  1. Lord T says:

    Totally agree.

    Only things all agree on would get through.

    At the best it would force both main parties to replace their leaders and relook at their policies. Next election would be different.

  2. Jeff Taylor says:

    Excellent piece Dominic. I suppose the AAA status is like us ‘having’ to have Trident.

  3. Dominic says:

    Thanks guys. I can’t help feeling a bit depressed at the state of UK politics at the moment – there really should be something better on offer. But I am, ultimately, a technocrat at heart.