As readers can imagine, WealthBriefing, along with other news organisations, has been deluged with commentary from pundits, lawyers, economists and wealth managers about the possible implications of the 6 May national UK elections, which have – at the time of writing (7 May 2010), not yet produced a coalition government. We have decided, out of the many comments, to air these thoughts from Jeremy Beckwith, chief investment officer of Kleinwort Benson. He was interviewed by Dermot Murnaghan of SkyNews last Friday.

His comments:

“The public have had their say, and faced with three principal choices, their answer would appear to be, ‘None of the Above’.  Together, Labour and the Lib Dems [Liberal Democrats] have no majority. Neither do the Conservatives, aided by their traditional Irish allies. This is a very messy and unfortunate result for financial markets.”

The three main political parties

“If the Conservatives wish to hold power they would have to find some accommodation with the Lib Dems, at least to support a package of measures for a first Queen’s Speech. They would not be prepared to offer a referendum on electoral reform, so a powerful alternative would need to be offered to the Lib Dems.  It should be clear to all involved though that at the first opportunity the Conservatives would look to hold another election - which only they could afford - to deliver a majority, so this does not look like a stable solution.  It would almost certainly cramp their ability to reduce the deficit quickly.”

“As sitting Prime Minister, it is Gordon Brown who should have the first attempt at establishing a majority Government, but Nick Clegg [Lib Dem leader] has pre-empted that by saying he would talk to the Conservatives first.  If Labour enter in to a formal coalition with the Lib Dems, it is likely that part of the deal would be two or three Cabinet posts - Vince Cable still has a shot at being Chancellor - and a promise of a referendum on proportional representation for future elections, within a short period of time.”

“Some carrots dangled in front of the Scottish and Welsh Nationalists in the form of promised protection against spending cuts would probably ensure their support, and in a crisis Cable could rely on support from the Green MP and the SDLP MP.  Thus, a left-of-centre majority could be achieved, but the bargaining power of the small parties would massively complicate the ability to cut government spending in a meaningful way.”

“In this scenario, it is likely that Gordon Brown would offer to step down - at some convenient point. He does not strike me as the sort of leader who would enjoy accommodating so many different interest groups and the Lib Dems would almost certainly demand a new PM. This is a complicated but plausible scenario, and would not be welcomed by the gilt and foreign exchange markets.”

“The Lib Dems are potentially caught between a rock and a hard place. The first solution could easily be characterised as a ‘Club of Losers’, desperately doing deals in order to hang on to power at any cost. If the markets rebelled at the slow pace of deficit reduction it could put back the idea of three party politics and coalitions for a long time to come. Equally, they have little bargaining power, they have to appear to be ready to deal and the Conservatives may not need to offer them very much, so that they are a very junior partner in any alliance to be discarded as soon as is convenient.”

The elephant in the room

“A common feature of the campaigns of all three major political parties was the total lack of transparency with regards to sharing with the public the true state of the public finances, and clarifying what measures will really need to be taken to put them right.  Indeed, if one was only to go by the fiscal tightening measures actually detailed in any of the manifestos, then by the time of the next General Election, Britain would have approximately the same deficit and debt position as Greece.”

“This has been the ‘elephant in the room’ throughout the campaign, and the politicians resolutely refused to turn around and look at it. This could be an issue because there is no mandate from the election to take the painful action that will be required.  At its simplest, the current level of public spending was envisaged for an economy that was at least 10 per cent larger than it is today.”

“This ‘structural deficit’ is thus of the order of £70 billion.  The rest of the deficit can be characterised as ‘cyclical’ and can be expected to reduce naturally as growth returns to the economy – the problem being that the very act of reducing the structural deficit (which could be achieved for example by raising the basic rate of income tax from 20 per cent to 30 per cent and by raising VAT from 17.5 per cent to 24 per cent) is likely to reduce economic growth and so make the cyclical deficit much worse.”

“A new Prime Minister can be expected to come out quite quickly with news that the public finances are in a much worse condition than has been previously admitted – this can be painlessly achieved by adjusting the future expected economic growth rates, and blaming Gordon Brown for this terrible inheritance.” 

“The financial markets will not be too surprised, but it is now very important, following the Greek crisis and its contagious effects on markets in Portugal, Ireland and Spain, that there is a seriousness of intent and a credibly detailed plan to deal with the deficit brought forward fairly quickly.  The ratings agencies have previously indicated that they have been holding off a more negative assessment of the UK’s credit rating pending the election and any new government’s plans.”

Recent international market moves

“Globally equity markets have in recent weeks been spooked by developments in the euro-zone, and last night saw the Dow Jones Index fall 600 points in 3 minutes for no apparent reason, before regaining all the ground in the next 5 minutes.  This highlights the continued relative lack of liquidity in markets and febrile sentiment despite the huge rally of the last 14 months.  Such market skittishness is not a great backdrop to the uncertainties now within the UK political system.”