Labour will win by a mile but is coming to power at the worst possible moment. The economy has been laid waste by the Conservatives, who have deployed a scorched earth policy that will ensure the incoming government has the inheritance from hell.
That, at least, is the conventional wisdom, a view that Keir Starmer and Rachel Reeves have done nothing to counter. There is a reason for that. It suits Labour’s campaign message to paint the blackest possible picture so that it can blame the Tories for any tough decisions they have to make.
Even so, the conventional wisdom is wrong. Without in any way minimising the challenges Starmer and Reeves face, this is actually not a bad time to be arriving in office.
Sure, excessively high interest rates threaten to derail the UK’s fledgling recovery. No question, years of weak productivity growth, coupled with the cost of a pandemic, and a cost of living crisis have left the public finances in a mess. Nobody would dispute that the economy is in a worse state than it was the last time Labour emerged from opposition in 1997. Covid has left deep and permanent scars.
That said, the new government will have a number of things going for it. For a start, expectations are at such a rock-bottom level that it won’t take much to exceed them. The desire of voters to get rid of the Tories does not appear to be matched by a similar enthusiasm for what Labour is offering. Faith in politicians of all stripes is at a low ebb, so nobody is anticipating much.
Then there’s the fact that the Tories have been forced to clear up their own mess rather than – as was the case in 1964 and 1974 – leaving Labour to do the dirty work. And, to be fair, Sunak has made a reasonably good fist of it.
It is not really true that the Tories have been laying waste to the economy. On the contrary, Sunak and Jeremy Hunt have taken some extremely unpopular decisions – the six-year freeze on tax allowances, for example – to reduce public borrowing.
Given the chaos they inherited from Liz Truss, they perhaps had little option but to play things straight, but Hunt’s decision to provide firms with permanent 100% tax relief on investment spending was a smart move. It addresses one of the economy’s enduring weaknesses and should bear fruit over time, helping Labour more than it has the Conservatives.
At the end of 2022, shortly after Truss left office, the Bank of England was expecting the longest recession in 100 years, one lasting from the summer of 2022 to the middle of this year.
The economy did end up in recession, but it was a short-lived and shallow affair lasting just two quarters and nothing like as severe as slumps of the past. All things considered, the economy held up a lot better to higher interest rates and rising taxes than the Bank feared.
The current state of the economy also suggests there is going to be a post-election bounce. Household budgets are much less stretched than they were a year ago because pay is rising faster than prices. That’s insufficient to make good the losses suffered earlier in this parliament, but it does mean consumer confidence is on the up. There is evidence from the latest S&P snapshot of the economy that households have been putting off spending decisions until after the election.
Sooner or later, the Bank of England will decide the time is right to reduce interest rates. Theadneedle Street’s monetary policy committee kept interest rates on hold at 5.25% this week but signalled that cheaper borrowing costs may not be that long in coming: either in August or September. The fact that some of the seven members who voted for no change said the decision was “finely balanced” could mean the former.
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The Bank accepts that the 14 interest rate increases between December 2021 and August 2023 are dampening activity, and its policy stance will remain restrictive even when rates start to come down. But the fact that the Bank is likely to move shortly after Labour arrives in power will reduce borrowing costs for consumers and businesses. This should cement the idea that a change of government has had a positive effect. Interest rates could be as low as 3% by the end of 2025.
Nor is Reeves as boxed in by fiscal policy as is assumed. She is committed to the same debt rule as Hunt – namely that debt as a share of national income should be falling at the end of a rolling five-year period. But as Andrew Goodwin, of the Oxford Economics consultancy, points out, the measure of debt used includes the impact of the cost of the Treasury indemnifying the Bank of England for losses when it sells UK bonds gilts bought under the money creation scheme known as quantitative easing.
Tweaking the debt rule to exclude these payments would give Reeves an extra £20bn to play with, and it would be a major surprise – and a missed opportunity – were she not to announce the change in an autumn budget.
The way things are shaping up, that budget will take place with the Conservative party in turmoil following a defeat of historic proportions. Unless there is another Covid-like shock to the economy, Labour will be able to plan for two full terms in office. If tough decisions are needed – as they probably will be – Starmer and Reeves can say that is a price that sadly has to be paid after 14 years of Tory incompetence.