Page 5 - ISQ October 2022

INVESTMENT STRATEGY QUARTERLY

stand together in the face of profound geopolitical and the country’s base interest rate in an attempt to bear down on
economic stress, the newly installed Ms Truss is quickly elevated and “sticky” inflation, may have to redouble its
learning how her own, admittedly heavily disguised, political commitment, and fast, if credibility is to be restored and a
weakness is swiftly evolving into an even more profound fully-fledged sterling crisis avoided. It has already been forced
economic and financial market fragility. into a high-profile U-turn, temporarily returning to purchase
even more government bonds instead of selling them as
From the viewpoint of economics, the nub of the problem scheduled, to head-off what had threatened to become a
affecting the UK (and developed Western economies more disorderly melt-down.
widely) is that one simply cannot “buy” growth by adding
mountains of debt. Indeed, between 1999 and 2019, the year Amidst all the apparent doom and gloom, the hardened
prior to Covid’s onset, the UK economy expanded by £0.72tr investor knows only too well the age-old mantra, “markets stop
whilst adding debt of £2.9tr. Put differently, every £1 of panicking when officials start panicking!” When all around are
borrowing yielded just 0.25p of growth. Within the growth losing their cool, then that is the time to look for opportunities.
reported over that period, as much as 69% of it was derived Perverse as it may sound, the more distorted UK financial asset
from the cosmetic impact of pouring vast amounts of addi- prices appear, the greater the longer-term opportunity. For
tional credit into the system. Whilst reported growth may have now, holding the line and being courageous in the teeth of
averaged an annualised 1.8%, borrowing averaged an annual- adversity will surely be rewarded in the future.
ised 7.2% of GDP over the same period. In essence, pretty much
all the “growth” achieved by the UK economy since the dawn of
the new century has been a mirage. Taking the view that the KEY TAKEAWAYS:
future will be different is to push back against recent historical • The UK “mini Budget” is a high-risk plan to reinvent
experience. the UK as a high growth/high wage economy. An

Beyond this, the relentless downward pressure on real uncosted and aggressive borrowing plan to generate
household disposable incomes has resulted in a profound sufficient growth in the future has impacted on the
affordability compression for the average household. This, if gilt-edged market and sterling.
unaddressed, will inevitably lead to an undermined ability to • “Buying” growth by adding debt does not solve the
not only make discretionary purchases but increasingly force UK’s long-term productivity problem.
the paring back of items hitherto deemed essential, including • Persistent high inflation has imparted a significant
staged payments and subscriptions. This has equally profound affordability problem for the average UK household.
consequences for an economy hugely leveraged on the global Energy costs, although rising, have been capped by
financial system. The latest available data pertaining to 2020 the new administration.
reveals that the UK has aggregated financial assets – the
counterpoint to liabilities (relating to the household, business • The Bank of England has stepped in both to rescue the
and government sectors), amounting to an eye-watering pension fund sector and restore the UK’s economic
1262% of GDP. For comparison, the equivalent figure in Japan credibility, essential to avoid a debt servicing crisis
is 871%, Europe 795% and the United States 588%. This is not and to “cover” the widening current account deficit.
to say that other regions of the developed world are in rude • The combination of a temporary return to bond
health, just that the UK is, on this metric, comfortably the most purchases and likely yet higher interest rates has
vulnerable to the vicissitudes of the financial markets. averted a sterling crisis and bought time, but more
An uncosted exercise in bluster, which is what Mr Kwarteng’s may need to be done.
mini-Budget turned out to be, risks severely damaging the UK’s
credibility at a time when, to borrow a phrase from the former
Bank of England governor, Mr Mark Carney, the country needs
all the kindness of strangers it can possibly muster. The UK
needs cash from overseas to prevent debt servicing costs from
spiralling out of control and to “cover” the sharp widening in
the current account deficit. But kindness is not to be confused
with charity; there is a price for everything, and financial assets
will reprice until such point as the UK’s allure becomes
irresistible. The Bank of England, already in the midst of raising

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