Letter from London – Post Budget Review – March 2023

March 16, 2023

Jeremy Hunt became only the second of the five politicians since mid-2019 to have held the post of Chancellor of the Exchequer and survive long enough in office to deliver a Budget.

Calm reassurance remains at the heart of his style and substance. Not for him the almost traditional “pulling rabbits out of the hat” during the speech itself (except possibly the abolition of the lifetime allowance on private pensions savings) after a week-long drum beat of selected details being fed to the media. In an inadvertent nod to upmarket US journalistic practice, a policy of “no surprises” was evidently the order of the day – perhaps after the torrid year we have since the last budget, a Hunt-led Treasury correctly calculated that market nerves would not withstand any more unanticipated excitement. As expected, the energy price guarantee was extended; the fuel duty freeze and five pence cut in petrol and diesel was retained; substantial uplifts were made to childcare benefits and defence funding.

The Sunak/Hunt team operates harmoniously and professionally. Despite being thrown together in the midst of crisis (the pair had never previously served together in cabinet and Hunt had been appointed just six days before the Truss administration imploded last October) initial thinking that Sunak would soon want his ‘own man or woman’ at the Treasury has given way to a realisation that stability in senior personnel will be required after last year’s dizzying game of cabinet musical chairs. After all, how else is the UK to restore its credibility and hard-won reputation as a serious, reliable bastion of certainty in attracting foreign investment?

Siren calls from some quarters of the governing Conservative Party for immediate tax cuts and an aggressive growth-at-all-costs strategy have been kept at bay – for now – with a relentless redoubling of efforts to tame inflation as the most urgent economic priority. The demands of the Ultras have been roundly derided by many political commentators – never ending talk of having fiscal headroom to slash taxes sounds preposterous when the national debt has tripled over the past 15 years, now weighing in at £2.5trn and rising fast. Nevertheless, this background noise continues to represent a real threat to government stability, not least as these views are broadly supported by Party members, large numbers of whom remain unreconciled to the current leadership.

The narrative of betrayal that lies at the heart of the Johnson and Truss defenestrations will not easily fade and in this I am reminded of witnessing the perpetual anger of the parliamentary Left, denouncing each and every Labour government in office as having been thwarted by a conspiracy against enacting real socialism.

In fairness in recent weeks Rishi Sunak made more headway than had seemed possible in tackling one of Brexit’s most intractable legacies. In truth the problems have not magically been forever solved, but he has brought his administration some breathing space by a characteristically meticulous attention to detail in discussions with Brussels over Northern Ireland’s ‘very special position’ in the EU single market.

But why the all-embracing emphasis on tackling inflation? Politically the government sees this as crucial to the appearance of prudence and control over the nation’s finances, an essential pre-requisite to securing a fifth Conservative term at the next General Election, which must be called by the end of next year. The economic rationale, led by a revitalised Treasury, is stronger still. For three decades we have relied on low levels of inflation to smooth the path for commercial investment and ease industrial relations. UK businesses and households have taken for granted that whatever the economic headwinds they have been able to plan on the basis that prices will never deviate much from the central bank’s perennial 2% inflation target.

It is now evident that the post-lockdown recovery was built on the shakiest of foundations; the supply-chain hiatus led to a burst of inflationary pressure, a situation magnified by the impact of Russia’s war in Ukraine.

Further fiscal loosening as the pandemic paralysed so many of the UK’s service industries has also resulted in money supply becoming dangerously out of kilter. As the pandemic surged, the Bank of England, along with other central banks, revitalised its policy of Quantitative Easing, from which it had barely started the unravelling process after its emergency implementation during the financial crisis. Individual savings were massively built up during the exceptional circumstances of lockdown and furlough. It should not only have been dyed-in-the-wool adherents of monetarist economics who realised that this pent-up demand was likely to have adverse inflationary consequences.

It is now clear that keeping inflation to recent historic lows will be far more of a challenge than in the past. History also records that inflationary, and its close cousin, wage-price spirals tend to take hold extremely quickly. Incidentally this is also why the government has been so determined to concede little ground to any of the striking public sector workers in the array of current industrial disputes.

Exactly fifty years ago, in the first few months of 1973, inflation in the UK stood at 6.5%, only a little higher than the then 4% level in Germany whose economic success we then hoped to emulate as fellow members of the EEC. Yet within two years UK inflation levels had reached the unprecedented heights of 26%, whilst Germany’s remained in low single digits.

The sharp increases in world energy prices as a consequence of the Arab/Israeli war of 1973-4 impacted equally on both manufacturing economies (this was in the era just before North Sea oil came on tap). However, organised labour in Germany worked in tandem with its government, realising there would have to be a short-term fall in living standards rather than pushing for large wage hikes. Britain’s trades unions took the opposite course and the more powerful were able to threaten, and implement, strike action. Costs of production rose, further inflation resulted, and ever larger pay claims quickly became the norm – those living on fixed incomes or in occupations lacking industrial muscle lost ground and living standards across the board plummeted.

Those who criticise Treasury Orthodoxy should reflect that its institutionalised memory is now an important element in ensuring that in the years ahead policymakers do all they can to avoid replicating the grim outcome of the 1970s. This is a task that has been made all the more difficult, incidentally, by this week’s run on several US-domiciled banks including SVB, whose UK subsidiary was saved from insolvency by a Bank of England managed rescue by HSBC. Containing this fresh banking crisis and minimising its aftershocks will probably extinguish any appetite on the part of either the FED or the Bank to raise interest rates much further – despite the on-going and serious inflationary threat.

Little noticed in last month’s reshuffle was that the departmental and personnel reorganisation has reinforced Treasury supremacy within Whitehall. In their own ways all three of Rishi Sunak’s predecessors as PM sought to push back against what they regarded as a Treasury instinctively obstructive to the sweeping reforms they wished to enact. None succeeded and the Sunak/Hunt administration (probably happiest dealing in data and poring over spreadsheets) will restore the Treasury’s overwhelming powerbase in the government machine.

But to what end?

In the final weeks of last year, the Chancellor set out a package of thirty de-regulatory City reforms designed, in his own words, to “turbocharge economic growth” and “unleash potential”. The Finance Bill that follows this budget statement will enact some of them and put meat on the bones of other more generalised proposals. At the time some commentators rather oversold the measures as Big Bang 2.0 (a nod to the 1986 reforms that re-established the City’s leading international financial centre credentials). Nevertheless, this reflected a sense of a clear sense of direction after the loss in international confidence brought about following the Brexit vote when policy seems to have lurched between free-market rhetoric and knee-jerk interventionism. Finally, there seems to be some coherence, ambition and sense of mission, especially as financial services have been identified as one of the government’s key growth sectors.

Interestingly not all of the prospective deregulation comes about directly – or even indirectly – as a result of post-EU freedoms. The ring-fencing rules for banks were devised in Whitehall in the aftermath of the financial crisis; ditto the senior managers’ regime which disincentivised global financial institutions from locating senior executives in their London office; the much vaunted disavowal of the EU’s Solvency 2 measures, impacting the ability of our insurance industry and pension funds to invest in long-term infrastructure, has already been diluted by Brussels since we left the EU and was originally designed to ensure more assets were kept on insurers’ balance sheets in the aftermath of the Lloyd’s of London near-collapse in the 1980s; promoting London as a centre for digital currency is certainly innovative but may prove troublesome in the aftermath of what appears to be the unravelling of the next big financial scandal over crypto-assets.

One final word of warning – and as the erstwhile MP for the City of London for almost twenty years, I naturally speak as a friend and supporter of financial and professional services. In the aftermath of the 2007-8 banking crisis the near universal view was that we had become over-dependent on our financial services industry, which had become accustomed to light-touch regulation and had grown too fast relative to the rest of the UK economy. Those who worked in the City or in associated professions had made hay, but when the crash came, we were all on the line to bail it out.

It was felt that a diminished financial services sector might also prevent London sucking in so much graduate talent from across the nation and the long road to levelling up opportunities and outcomes across the rest of the country would then commence. Slowly but surely many of these sentiments seems to have been forgotten and the regulatory safeguards that were supposed to ensure that ‘it must never happen again’ have been lowered. This direction of travel seems set to continue, not least at a time when the New York Stock Exchange is making a very public challenge to London-listed businesses to transfer to Wall Street.

Yet two eternal lessons of political and business life are that it is rarely ‘different this time’ and that very few problems are entirely novel.

Written on 15 March 2023 by The Rt Hon Mark Field, former Member of Parliament (MP) for Cities of London and Westminster and Consultant at Buchler Phillips, an independent boutique firm with an impeccable Mayfair London heritage, specialising in corporate recovery, turnaround, restructuring and insolvency.

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