Truss Plan to 'Turbo-Charge' UK Economy Already Alarms Markets

(Bloomberg) -- Sign up for the New Economy Daily newsletter, follow us @economics and subscribe to our podcast.

Most Read from Bloomberg

  • Amazon Closes, Abandons Plans for Dozens of US Warehouses

  • NASA's Artemis Rocket Is a Gigantic Waste of Money

  • Bed Bath & Beyond Says CFO Died in Fall From NYC Building

  • Germany to Make 'Billions' Off Energy Firm Levy, Scholz Says

  • Cyrus Mistry, Heir to One of India's Oldest Fortunes, Dies at 54

Liz Truss is set to become UK prime minister this week with her plan to "turbo-charge" the economy by slashing taxes already worrying investors amid double-digit inflation.

The foreign secretary is the front-runner to replace Boris Johnson, and Conservative Party members are expected to name her as their leader on Monday.

She would take office after declaring a willingness to run up the budget deficit just as the Bank of England is raising interest rates and selling its own holdings of government bonds. She also has indicated she will review the central bank's mandate.

Markets have already signaled concern about a Truss premiership as bond traders fret that a flood of gilts may be too much to absorb, triggering higher debt-servicing costs.

Since July 7 when Johnson decided to step aside, borrowing costs on 10-year government bonds have risen faster than those of any of the other 22 major bond markets. The pound has also trailed 132 of the world's 150 top currencies.

"We have a number of concerns about the dependence on the kindness of strangers to fund the UK when the public finances are likely to deteriorate materially," said Mark Capleton, strategist at Bank of America Corp.

Few leaders have taken charge of the UK with the economy in as dire a state. The most comparable moment is the early 1970s, when Labour's Harold Wilson entered Downing Street after an oil-shock and miner strike that left industry on a three-day week.

Should Truss win, she'd inherit inflation at 10.1% and on track to breach 20% for the first time since 1974, according to Goldman Sachs Group Inc. Investors are betting interest rates rise to 4.75% by May, threatening misery for mortgage borrowers more familiar with rates below 1%.

Energy costs are set to absorb as much as a 10th of household spending, pushing as many half of the UK's 28 million households into fuel poverty.

With the BOE expecting a recession by the end of the year, industry has also been told to prepare for orchestrated blackouts this winter. And labor groups are talking about the first nationwide strike since 1926.

Truss's view is that cutting taxes and regulations will unleash the nation's productive potential and take advantage of the opportunities opened when Britain left the European Union.

Her plan is to make the public sector "more efficient" and bring the public finances under control by raising the UK's average growth rate to 2.5% -- a level not consistently achieved since before the 2008 financial crisis. That will fix the public finances by bringing debt as a share of GDP down in the longer term.

She's been deliberately vague about the details, but in broad terms it has three prongs:

  • Tackle the immediate cost-of-living crisis with support for households and business

  • Kick-start growth with £30 billion of personal and business tax cuts

  • Lift the productive potential of the economy with supply side reforms. The details, though, remain largely a mystery

What Bloomberg Economics Says ...

"Staking out a libertarian position, Truss's plan to cut taxes will offer little support to those hardest hit by the deepening energy crisis, while creating additional long-term pressure on the public finances."

--Ana Luis Andrade, Bloomberg Economics. Click for the INSIGHT.

Read more: Even Liz Truss Supporters Worry She Could Wreak Havoc for the UK

Economists, opposition politicians and even some in the ruling Conservative Party worry that her tax cuts will be inflationary and loosen fiscal restraints too much, turning the market downturn into a crisis. She has pledged "no new taxes" to pay for the giveaways and says she does "not want to cut public spending" either.

Former Bank of England Deputy Governor Charlie Bean, who was also a member of the government's fiscal watchdog, the Office for Budget Responsibility, believes launching a policy experiment in the middle of a crisis is unwise.

"I could see investors starting to think the UK doesn't look such a good place to invest," Bean told Bloomberg Television. "You'll see a risk premium re-emerging on gilts, which is just starting to happen."

His fear that investors could lose faith in the UK is shared by Nicholas Macpherson, the Treasury's former permanent secretary, who tweeted this week that "a rising cost of borrowing and a falling pound" is the Treasury's "worst nightmare."

Plans to review the BOE mandate are causing further unease. The Treasury handed the central bank authority over interest rates in 1997, but Truss has suggested the government needs more directive powers. If she follows through, it could dent investor confidence in the institution.

Taken individually, none of Truss's policy proposals are extraordinary. Her promise to reverse April's increase in national insurance and scrap next year's planned rise in corporation tax merely put tax policy back where it was at the start of 2020. The UK has reviewed the BOE mandate before, and Canada does it regularly.

But in the context of the current energy and inflation shock, and set against populist language about breaking from "economic orthodoxy," Truss has people worried.

"UK government finances are a source of worry," said Lauréline Renaud-Chatelain, a fixed income strategist at Pictet Wealth Management. "The deficit is very likely to rise meaningfully going forward."

The Treasury is facing extreme strains. Support for households may top £50 billion, according to Sanjay Raja, UK economist at Deutsche Bank. Others suggest more than £100 billion will be needed to save businesses from bankruptcy and offset the rise in household bills.

As rates and inflation rise, the cost of servicing the national debt will jump to around £100 billion this year -- twice the sum spent on transport.

Truss's real test will come as investors respond to the new prime minister's first remarks in the next few days. As Bean, the former BOE economist put it, "Markets are the mechanism that punish bad policies."

Read more:

  • Even Liz Truss Supporters Worry She Could Wreak Havoc for the UK

  • Liz Truss Is On Course for a Collision With UK Economic Reality

  • Liz Truss Tax Cuts May Push Rates Closer to UK's Pain Threshold

  • UK's Outsider Economists Question Radicalism of Trussonomics

  • Truss vs. Sunak: Where UK Leadership Contenders Stand on Economy

Most Read from Bloomberg Businessweek

  • Women Who Stay Single and Don't Have Kids Are Getting Richer

  • Mark Zuckerberg's Metaverse Pitch Is Falling Flat

  • A New Contaminant Found in Popular Drugs Could Cost Big Pharma Millions

  • Russia's Conspiracy-Theory Factory Is Swaying a Brand-New Audience

  • The Anti-ESG Crusader Who Wants to Pick a Fight With BlackRock

©2022 Bloomberg L.P.


More Related News

Horror of a Hotter World on Stark Display in Parched East Africa
Horror of a Hotter World on Stark Display in Parched East Africa

(Bloomberg) -- Most Read from BloombergPutin Says Russia May Add Nuclear First Strike to StrategyHarry and Meghan Throw the Gauntlet to William and...

Rivian, Warner Bros. Discovery to Be Added to Nasdaq 100
Rivian, Warner Bros. Discovery to Be Added to Nasdaq 100

(Bloomberg) -- Rivian Automotive Inc. and Warner Bros. Discovery Inc. will be joining the Nasdaq 100 Index as part of its annual rebalancing, which adjusts...

US Probes FTX Founder for Fraud, Examines Cash Flows to Bahamas
US Probes FTX Founder for Fraud, Examines Cash Flows to Bahamas
  • US
  • 2022-12-10 00:55:14Z

(Bloomberg) -- US prosecutors, laying the groundwork for a potential fraud case against Sam Bankman-Fried and others involved in the collapse of...

How To Get Out of Debt: A Step-by-Step Guide
How To Get Out of Debt: A Step-by-Step Guide

If you're heavily in debt, you're not alone: a GOBankingRates survey found that the average American is $63,000 in debt. Whether your debt is from student...

US Lawmakers Want More Oversight of the Federal Reserve
US Lawmakers Want More Oversight of the Federal Reserve

(Bloomberg) -- An organizational loophole used by the Federal Reserve's 12 regional banks to avoid complying with transparency requests is under fire from...

Leave a Comment

Your email address will not be published. Required fields are marked with *

Cancel reply


Top News: Economy