Labour’s Big Win to Result in Policy Evolution Rather than Revolution in the UK

The Labour Party secured a sweeping victory in the UK general election, returning them to power for the first time since 2010. Although Labour’s share of the vote increased only slightly since 2019 to 34%, the Conservative’s loss of votes to Reform allowed Labour to win 412 ¹ of the country’s 650-seat parliament. Even so, we expect the market impact to be relatively muted in the near term given this outcome has been expected for an extended period and because Labour will have limited space to enact meaningful fiscal change. As a result, we recommend investors continue to hold UK equities in-line with policy benchmarks.

While the Labour Party have been given a mandate to govern, it is less obvious that they have been granted a mandate for substantial fiscal change, given the cautious manifesto upon which they campaigned. For instance, Labour has committed to two budgetary rules: (1) debt-to-GDP should fall by the fifth year of budgetary forecasts; and (2) the current budget should be in balance on the same time horizon. While the still-vivid memory of the Truss/Kwarteng era fiscal plans is likely enough on its own to inhibit attempts at serious unfunded expenditure, spending will likely be further constrained by the party’s commitment not to raise income tax, national insurance, corporation tax, or VAT. This leaves few other options to raise taxes to finance increased spending.

Labour plan to enact several reforms to increase productivity growth, which has been a source of much of the United Kingdom’s economic malaise, albeit one shared by many developed markets. For a start, they plan to build 1.5 million new homes over the next five years, more than 60% above the average completions rate of the last decade. Labour are also aiming to streamline public infrastructure planning, as well as commercial and industrial projects within growth industries. They believe there is also scope to materially increase private sector investment in both capital projects and broader capital markets. A period of economic stability would be a tailwind to boosting such investment, while Labour have also suggested they may look toward consolidation of smaller pension funds as a potential further source of capital investment. Finally, after being partially relitigated at the 2019 election, Brexit was notable by its absence as a central Labour campaign topic during this election. Indeed, Labour have ruled out rejoining the single market or entering a customs union. However, they will likely attempt to eventually deepen ties with Europe via measures such as removing non-tariff trade barriers and fostering alignment on standards.

Structural reforms are by their nature slow and challenging to implement. Even if their execution is successful, it will be at least a couple of years before there is a discernible growth impact. With Labour’s hands largely tied from a fiscal perspective, if partly by their own choice, this election’s short-to-medium impact on economic growth is therefore likely to be modest. Similarly, we expect the market impact to be muted in the near term given both this growth backdrop and how long a large Labour victory has looked assured. Still, UK equities trade at a significant discount to their peers (our preferred valuation metric shows UK equities trading on a multiple of 7.4x versus 17.0x for broad developed markets) and a shift in sentiment could catalyse some catch-up performance. However, we await more concrete signs that the fundamental backdrop is improving and continue to recommend holding UK equities in-line with policy weights.

Thomas O’Mahony, Senior Investment Director, Capital Markets Research

Footnotes

1. Two seats had not been declared at the time of writing.