Discomfort of Disappearing Safety Nets

It is also not just governments that are forcing us out of the comfort of their safety nets. Despite assurances of continued emergency monetary support, central banks have also slowed the drip- feed of ever more liquidity. This leaves everyone in a slightly uncomfortable state of limbo between the relative economic safety of the extraordinary policy measures and a return to the harsh forces of the market economy. Currently, there is undeniably a v-shaped bounce back of economic activity, but because of the huge levels of near-term uncertainty over the further direction of the economic recovery, the jobs market has turned sour and government investment programme announcements are needed to bolster the negligible industry demand for capital goods.

Stock and bond markets have remained unperturbed about the growing risk that what was an ‘ordered recession’ may turn into a classic recessionary state of corporate defaults and mass unemployment, and have continued to inch upwards. However, China’s recent upward surge in stock markets turned into an abrupt downward reversal over the past week, as it became clear that much of the resurging economic growth there is due to government stimulus, while consumers and businesses remain very cautious to spend. The US consumer recovery may well show a very similar pattern soon, as the Southern and Western states experience a delayed but nevertheless full brunt of first wave infections, with perhaps half of the US returning to the confinement of their homes.

As we discussed last week, the UK is lagging its European neighbours in its return to increased mobility and economic activity. This seems reasonable given the epidemic took hold of the UK later and it has therefore not yet receded as far as across the Channel. However, this does not explain the distinct lagging behind of the UK’s stock market. This is more likely the result of the additional uncertainties of Brexit putting off – at least international investors – from returning with their capital.

While clearly a headwind for the UK (expressed in our investment strategy with a distinct UK underweight), there have been some notable Brexit developments over the course of the week. First, Apple won its appeal to overturn a European Commission ruling that claimed Ireland had failed to claim €13 billion in taxes. This result strengthens the position of differentiated corporate tax rates across the European Union (EU). Second, German and French fiscal stimulus package announcements increase the level of economic intervention and disparity of these packages across member states considerably. Both developments will make it harder to argue that the UK will have to continue to adhere to EU harmonisation rules in return for preferential market access, especially when the individual EU member states are themselves drifting away from the purist market economy ideal in their own industrial and tax policies.

The noise coming from both parties as we approach the UK’s self-imposed negotiation deadline of the end of July can be disheartening and worrying. On the other hand, it needs to be remembered that politicians are now more than ever depending on a strong economic recovery in order to assume re-election. An accidental hard Brexit at the end of the year would vastly exacerbate the economic hardship for regions that are already bound to suffer most from the COVID recession – in the UK namely the industrialised North with its ‘Red Wall’ constituencies. We are therefore optimistic that the threat will remain restricted to verbal ‘propaganda’, but also fear that COVID will cause the exit process to continue to suffer from procrastination and delay. Although not a disaster like a hard Brexit, this would be an enduring and continued barrier to business growth, as we have experienced since the 2016 referendum.

The only positive COVID has brought in this respect is that, with its negotiating partners all facing their own respective domestic uncertainty, the UK’s government has the opportunity to deploy many more economic support parameters to counter its own homemade headwinds.