Election Briefing

The biggest election year in human history is in full swing. In India, Narendra Modi clung on to power but lost much of his support. Populism is on the rise in the European parliament. The vote for America’s Presidency is yet to come and more ballots have been added to already packed election agenda, notably in the UK and in France.

The sheer number of elections and likely shifts in the balance of power across some of the world’s biggest nations has, unsurprisingly, been inducing uncertainty into financial markets. Still, history suggests that politics tends to have limited impact on investments beyond the short term.

Why is that?

The government has only limited sway over the economy and the economy has a limited impact on markets. Manifestos and campaign promises are rarely implemented as planned, as extreme partisanship and political constraints limit the flexibility for manoeuvre for incumbents and challengers alike. What’s more, the economic impact of many policies might only materialise years later, often only by the time a new administration has taken charge.

Economies are shaped more by trends that are out of any one government’s control. This was painfully evident with the impact of the Covid-19 pandemic, the conflict in the Middle East, and the global fight against inflation; and continues with longer term trends such as aging populations and climate change. Governments’ handling of these challenges matter but measurable impact will depend on the sum of a myriad of decisions across many administrations.

Thus, in the short term, uncertainties around the economic impact of proposed policy makes political change notoriously hard to price. In the long term, historical data suggest political ideology is a poor predictor for both GDP growth and equity returns. Since 1900, the aggregate annualised return on UK equities under Conservative (& Unionist) Party Prime Ministers was 5.9%; under Labour ones 5.8%¹.

Elections in the UK: the ghost of Liz Truss still looms large

The UK election campaign is ramping up as we approach polling day, but the manifestos of the two main parties are more aligned than they are prepared to admit. Much of this is due to an extremely tight fiscal environment, severely limiting both parties’ flexibility in proposing policies requiring major investment.

Uncomfortable memories of Liz Truss’s and Kwasi Kwarteng’s 2022 autumn budget are still on strategists’ minds. The budget was well intended in addressing some of the UK’s major economic issues – such as stalled productivity growth from chronic underinvestment in infrastructure. Yet, investors severely punished the plan for its outsized pressure on public finances. The Office for Budget Responsibility (OBR) has continued to urge caution about the UK’s fiscal position, a guidance that is proving hard to ignore. As a result, neither party is running on major economic reform but rather taxes and immigration.

Changes to taxation will be emotive but will have limited impact. Residents in the UK are facing the highest tax burden for 70 years², putting pressure on household finances at a time when they are still recovering from a near unprecedented rise in the cost of living. Both parties intend to stick with the current threshold freezes on income tax, effectively raising the tax burden. This will limit the positive effects of otherwise robust wage growth. Conservatives are discussing a further reduction of National Insurance and reinforcing the pension triple lock, whereas Labour are exploring charging VAT on private school fees. Neither is expected to have a major impact on consumer spending.

While rhetoric on immigration differs markedly between the parties, their policies are remarkably similar. Political stability, however, will clarify the immigration framework and aid the clearing of existing asylum backlogs. An orderly immigration framework could also provide relief to the strained labour market.

Finally, in their “five national missions”, Labour outlined plans to invest in the NHS, found a new publicly owned green energy company, and reform planning laws. These policies have the potential to strengthen the economy in the long term; however, they may be held back by significant strains on public finances, and, in any case, their benefits are likely to take decades to take effect.

Irrespective of the winner, any election result will reduce uncertainties about the future political landscape. This should foster planning security, improved business sentiment, and greater business investment which, all else being equal, should support financial markets in the medium term.

Elections in the US: it’s “America first”, regardless of who wins

Trump’s administration brought restrictions on China trade, in effect calling time on Chinese inaction over breaches of intellectual property rights and alleged trade dumping. Yet protectionism only intensified under Biden, particularly regarding advanced technologies such as semiconductors. Trump’s stated intention is to go much further, by imposing 60% tariffs on China goods generally, with additional penalties on imports in key sectors such as electric vehicles and introduce a “universal baseline tariff” of 10% applying on all other global imports.

Further increases in tariffs, especially of the magnitude envisaged by Trump, will likely prove inflationary for the US - adding up to 1.75% on top of the current estimate - and could therefore delay the Federal Reserve from making any interest rate cuts on the post-election horizon. If fully applied, the tariffs would also dampen Chinese & European growth – quarterly Chinese imports tally $34.3bn with European Union imports worth $196.5bn³ – as well as in the US, having potentially negative consequences for equity markets.

Trump would also dial back environmental regulations, vowing to revoke Biden’s climate change initiatives to ensure America has the lowest cost of energy. He’d likely push for further deregulation and development of the oil & gas sector. This could have a meaningful impact on earnings and investment returns for the affected industrial sectors. “Environmental, social, and governance” (ESG) investments might struggle to keep pace with the wider markets.

With Trump’s growing influence over the Republican party, he would likely seek an end to the Affordable Care Act (ACA), whether by defunding it or, if possible, overturning the legislation. Individual pharmaceutical companies may benefit or suffer depending on the drugs sold. Expect hospital service provision companies to see lower revenues. However, Trump and the Republican Party may find more resistance than expected, as polls suggest Americans’ approval of ACA have increased over time⁴.

Finally, taxes would favour the rich. Trump has pledged to make the individual & estate tax cuts of the ‘2018 Tax Cuts and Jobs Act’ permanent and to keep the corporate tax rate at 21%, but to tax large private university endowments. The US budget deficit (already $855bn) would likely increase significantly. With US government debt at $3.8tn⁵, expect debt issuance to rise further. And given the breakdown in relations with China (a major buyer of US debt), buyers may need to be incentivised with higher longer-term bond yields.

All of this assumes successful navigation of a highly partisan US Congress. However, if Democrats succeed in taking the House and Republicans in taking the Senate, as currently looks likely, this should throw a considerable spanner into the next President’s works.

Bottom line

Elections are highly emotive events, not least due to rising levels of partisanship around the world. Taking a step back however, this emotive rhetoric rarely translates into fundamental economic change: once in power, political fragmentation, partisanship, and tight fiscal environments limit the flexibility for manoeuvre for all parties equally. Indeed, history suggests that incumbent political parties serve as poor predictor for both economic growth and equity returns which, in the long term, are mostly driven by factors outside politicians’ control. Thus, Investors should resist the urge to position for extreme market reactions and instead reserve conviction on true long-term developments.