UK announces budget after political chaos and market turmoil

Finance Minister Jeremy Hunt vows that the government plan will prioritize “stability, growth and public services.”

Sarah Olney, Liberal Democrat MP for Richmond Park, says the U.K.’s fiscal statement, unlike the chaotic mini-budget, will be based on the Office for Budget Responsibility’s economic forecasts. But those estimates remain highly uncertain and leave significant margin for error.

Sterling is likely to stay volatile, according to Barclays managing director and head of G10 spot FX Ian Tew, who spoke to CNBC’s “Squawk Box Europe” ahead of the Autumn Budget statement from U.K. Finance Minister Jeremy Hunt.

Ken Egan, director of European sovereign credit at Kroll Bond Rating Agency, told CNBC last week that given the sensitivity of the bond market, Hunt’s fiscal announcements will require a “deft and cautious approach.”

“This fiscal tightening through spending or higher taxes will likely hamper growth. It’s reminiscent of what Thatcher said — ‘yes, the medicine is harsh, but the patient requires it’ — and what I’d be concerned about is the type of spending cuts,” Egan told CNBC via videolink.

“If you target cuts around areas that typically promote stable or longer term growth and productivity such as infrastructure, education, investment spending, this in time potentially drags on various credit metrics.”

While acknowledging that exact forecasts were difficult at present given the rate of policy change in the U.K., Egan suggested that government borrowing will ultimately increase regardless, at a time when “redemptions are rising sharply and the rollover costs are quite expensive.”

– Elliot Smith

As the Bank of England has ramped up interest rates to fight inflation, which came in at a 41-year high of 11.1% in October, the costs of the U.K.’s debt repayments have soared, with £22 billion ($26.2 billion) more paid in interest this year than last.

“That’s why help for the poorest households is expected to be the centrepiece for this budget, through a rise in benefits and pensions in line with double digit inflation, which will mount to a big bill for the Treasury,” said Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown.

“To try and re-coup that, stealth taxes on higher income earners are rumoured to be brought in through a freezing of tax thresholds.”

The government’s scheme to help the country’s poorest households with energy bill increases is expected to be continued at a lower and more targeted rate from April, and could be financed through a windfall tax on electricity generating firms, along with North Sea oil and gas producers.

“By taking all these steps the government hopes to fill in the fiscal ‘black hole’ which has emerged because successive Conservative ministers have said they want to see net debt falling by 2025-2026,” Streeter said.

“Sunak and Hunt are trying to dance to a tune they think the bond markets are playing, but by keeping so strictly to their perceived rules, they risk playing it too safe, and pushing the prospects of economic recovery far into the distance.”

– Elliot Smith

The U.K.’s Autumn Statement will mark an “unwelcome return to the austerity economics of 2010,” according to Julian Howard, lead investment director of multi asset solutions at GAM Investments.

“The first guiding principle of new Chancellor Jeremy Hunt appears to be that the books absolutely must be balanced and the £40 billion fiscal gap eliminated, regardless of any long-term assessment of the future cost of borrowing or growth rates,” Howard said in an email Wednesday.

“This will mean a combination of vicious spending cuts, to already heavily degraded public services, and tax rises imposed on consumers and businesses, staring down the barrel of a higher inflation and rates-induced recession.”

Howard suggested that pro-growth policies are likely to be thin on the ground as Hunt completes the near wholesale rejection of former Prime Minister Liz Truss’ economic agenda. Yet he said there is a “very persuasive argument” for growth being key to the U.K.’s ability to service its long-term debts.

“Ex-Monetary Policy Committee member Michael Saunders’ recent assessment of the damage done to said growth prospects by Brexit only highlights the wasted opportunity that this Budget represents,” Howard said.

“In terms of market outcomes, gilt yields may well fall further as any residual risk premium on holding U.K. debt dissipates. This should not be taken as vindication of a return to fiscal rectitude since gilt yields also incorporate a prediction about the future trajectory of growth.”

He added that the bond market’s judgment is likely to remain “deeply unfavorable,” while the country’s growth prospects and currency are set to dwindle over the medium term.

“Based on what we expect to hear from the Chancellor, nothing in the upcoming Autumn Statement will remotely qualify as being able to divert the country from this gloomy path,” Howard said.

– Elliot Smith

Barclays expects an austere budget from Finance Minister Jeremy Hunt, but suggested the government could face questions over its commitment to fiscal sustainability if a substantial portion of the new measures are “backloaded.”

“To maintain credibility with investors, in our view, the government will focus on the size of fiscal tightening. However, the composition and timing of fiscal tightening will matter too,” said Barclays Chief European Economist Silvia Ardagna.

“Near term, we expect the largest fraction of fiscal adjustment to be achieved via tax increases. We think spending cuts will be mainly budgeted for after the 2024 general election. As such, the delivery of these spending cuts remains uncertain.”