Leading Economists Say Post-Election Fiscal Risks Small, Policy Risks Loom

Mar 6 2015 | 5:49am ET

There will be no clear winner in the upcoming general elections in the UK, according to one leading economist.

“I think it’s fair to say that no single party is going to get a majority in a world of multi-party coalitions or minority governments,” said Michael Saunders, Head of Western Europe Economics at Citi Research. “The share of the electorate who are voting for a party other than the Conservatives, Labour or Lib Dem’s is up to about 25% now versus 10% in 2010 and lower levels in previous elections…This election will be unlike any we’ve had in the last 50 years in which the other parties will gain a significant number of seats.” 

Saunders made the comments on Tuesday at the event, Investor Outlook: What the UK and European Elections Mean for the Markets, which was organized by The Hedge Fund Association and sponsored by SuMI TRUST and Brown Rudnick.

Saunders said the most likely outcome of the general elections would be a left leaning “rainbow coalition” involving at least Labour, the Liberal Democrats and the Scottish National Party, with the second most likely outcome being a Conservative-lead minority coalition, followed by possibility of a Labour/Liberal Democratic minority coalition.


Fiscal risks, post election, are small, said Saunders, explaining that all likely government coalitions will stick with a modestly tight fiscal policy for the next few years. He pointed to the Charter for Budget Responsibility (CBR), which was passed into law in mid-January with support from the Conservatives, Labour and the Liberal Democrats.

“CBR commits whoever is in government to aim for two key fiscal targets: The first is a cyclically adjusted current balance on a rolling three year horizon and the second is the falling public debt to GDP ratio in 2016/17,” said Saunders. “This is the first time ever that the UK has gone into an election with a consensus across those three parties as to what the fiscal policy target should be post election.”

While Saunders isn’t too concerned about fiscal risk, he said that policy risks are sizable, with a ‘Brexit’ (Britain leaving the EU) being the biggest threat.

“I suspect, if we had a referendum the UK would vote to stay in, but I’m fairly sure that a Conservative led government [would] spend the next couple of years worrying about this, or if you’re one of those who want the UK to leave the EU, celebrating that possibility.” 

Where To Invest

Saunders believes that government bonds in Europe and the UK are a terrible value. He expects growth in the UK, the U.S. and the Euro-zone to be consensus for this year, fuelled by a combination of low interest rates and the drop in oil prices. “Therefore, equities in general will do pretty well, and I’m not going to try to pick sectors,” he told the 60-strong audience, which included many investors.

Britain’s Floundering Influence

According to Saunders, Britain’s influence in Europe is the lowest in decades.

“The ability of the UK to achieve major treaty change in Europe which [Prime Minister David] Cameron said he wants is zero,” said Saunders.  “It’s a complete nonstarter and there’s a massive unwillingness across other European governments to do another EU treaty, first off because it just opens up too many things and it’s also the complication of the European election cycle…”

“You go and talk to people at the European Commission [and] they’ve almost given up on the UK. You can see this in a whole range of issue; you can see it in the debate over Ukraine as well as in individual policy areas and in financial services.”

Europe Under Attack

Brunello Rosa, senior director at Roubini Global Economics, also speaking at the event, said Europe is extremely vulnerable.

“Europe, at the moment, is under attack on number fronts, both externally and internally,” said Rosa. Geographically, it is surrounded by threats, with unrest in countries in North Africa, the Middle East and Ukraine. “So from all sides, Europe is feeling pressure. Internally it’s not much better.”

Those internal threats, he said, come in the form of separatism, as we recently saw with the Scottish referendum, nationalism, which is taking root in Spain, France and other nations, and terrorism, such as the recent attacks in Paris and Copenhagen.

Europe is also suffering from a leadership vacuum.

“What I’m most worried about is the role of Germany and its lack of real leadership,” he said, adding that leadership means taking responsibilities and paying for it.

“Leading from the back, preventing the others from going in the wrong direction is really not leadership. When the Americans took the leadership of the world at some point, they become the policeman for the world they started paying for it, they never complained.  The Germans are not ready but they know how it works.”

So will the European Union survive? According to Rosa, “You will need another crisis, a very, very big crisis where the leader of Europe will have to decide: Do we make it or do we break it?”

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