Liz Truss

Chart of the Day: What Happened to the Conservatives in the UK?

The British pound flash-crashed to a record low of $1.035 early this week, breaking its previous record low in 1985. That morning the CME temporarily halted the trading of British Pound futures following a Currency Flash Crash and Record Low in the Pound.

See the flash crash in the chart below. It just shows how lives can change in a few seconds on the markets.

GBP Flash Crash 2022-09-26

So what has happened?

The initial issue was the “Growth Plan” by new Prime Minister Liz Truss, whose details were announced at the end of last week. This was then made a lot worse with exemplary efficiency by finance minister Kwasi Kwarteng on Sunday when he talked to BBC about it.

Further tax cuts could be coming, Kwasi Kwarteng suggested, which didn’t help either. When challenged in the interview that the new policies of tax cuts and spending increases would further heat up the already red-hot inflation

Kwasi Kwarteng said to the world – practically daring the bond vigilantes to come out of their graves – when asked about the plunge of the pound and the spike in yields last week that he wasn’t focused on market moves.

It is not difficult to explain the triggers behind the heavy sell-off in both GBP and gilts.  Few would argue with the assertion that Friday’s announcement from UK Chancellor Kwarteng comprised the biggest fiscal giveaway since the Barber boom budget in 1972.

The Telegraph described the reaction to the recent UK budget as “hysterical” and “almost deranged.”  As cable dived past its former 1985 low, the Chancellor pledged that even more tax cuts were on their way. The market responded with the moniker of “Kami-Kwase,” and speculation emerged that emergency measures from the BoE may now be inevitable.

The Institute for Fiscal Studies (IFS) has calculated that the combination of higher spending and tax cuts means government borrowing is expected to hit £100bn a year – more than double the official forecasts last March.

The market reaction was swift and certain. Check out the fall of the British Pound below.

GBPUSD_2022-09-27

Three-month risk-reversal contracts against the pound are near the most bearish since 2016, while others show a 43% chance it will hit $1 before the end of this year. “I think it’s going to get worse, unfortunately,” Jordan Rochester, a London-based strategist for Nomura, said on Bloomberg Surveillance.

The basic problem with the Truss plan is that it cuts taxes but not spending. The net result is more currency debasement leading to even higher inflation – currently near 10%. Imagine almost a year ago compared to today. Imports will cost British citizens 35 to 40% more. This is going to be painful, indeed.

Politically what is worrying is that the Truss economic policies will inevitably lead to voter fatigue. The conservatives will not be in power forever. If the Left return to power, inevitably, they will remove the Truss tax cuts, keep the Truss spending, and then add to Truss’ spending.

The potential economic future in Britain is troubling.

See more Chart of the Day posts.

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 RWR original article syndication source.

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Written by Tom Williams

Born down on the farm in America's Midwest, my early life was spent climbing the ladder via a long career in information technology. Starting as a technician, and after earning a degree going to night school, I eventually found a place working at ATT Bell Laboratories as a software engineer.

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