Labour’s ‘hard decisions’ are about to get a whole lot harder

Chaos in global stock markets has made Reeves’ fiscal plans look positively foolhardy

Rachel Reeves’ arrival in New York could not have come at a less opportune moment. Just as the Chancellor landed in the financial capital on a mission to drum up investment into Britain, global stock markets began plummeting. Wall Street’s “fear index” spiked to a four-year high after weaker-than-expected jobs and manufacturing data, and the Fed’s failure to cut interest rates, all amid shenanigans around repricing the yen.
The situation over the coming days and months is uncertain. Market corrections can be a healthy process, as they help reallocate investment towards more viable business models for the longer term. They allow for what economist Joseph Schumpeter called creative destruction: the “process of industrial mutation… that incessantly revolutionises the economic structure from within, incessantly destroying the old one, incessantly creating a new one”.
Specifically, the end of speculative exuberance in artificial intelligence could help refocus resources and attention towards sustainable business models. The bursting of the dotcom bubble in the early 2000s is a relevant example; it led to the downfall of many overvalued companies, like Pets.com, an unprofitable pet supplies online retailer that spent big on Super Bowl advertising. Meanwhile, firms like Amazon adapted their strategies and emerged stronger, ultimately becoming dominant players in the sector. The result was an economic boom.
On the other hand, this process could be economically painful, uncovering various weaknesses in the global economy. If nothing else, it helps mark the end of a brief honeymoon for the new Labour Government.
Last week things were looking positively rosy. The new Prime Minister had just come off the back of a series of high-profile international summits, from Nato in Washington DC to the European summit at Blenheim Palace. The latest GDP data had seen Britain outperform the euro area. Inflation was down to target. The Bank of England also cut rates, with the likelihood of more on the way.
Yet now we are experiencing a big and sudden vibe shift. Mobs clashing with police in street riots across the country. Sir Mark Rowley, the Met Police commissioner, grabbed a journalist’s microphone and dropped it to the ground after leaving a Cabinet Office meeting. The US stock market contagion is having a big impact across Europe. Speculation is mounting about a global recession. The hopeful backwards-facing indicators could very quickly turn the other way.
Much of Labour’s strategy over the last year was to promise to not be the Tories. This stemmed from the deluded idea that the previous government was not just incompetent but also actively malicious. It links back to the Left’s belief that the Right is evil (while the Right tends to see the Left as misguided).
Along this theme, Ms Reeves’ Mais Lecture earlier in the year leaned heavily on the idea that “stability” would be enough to attract investment. She seems to genuinely believe that simply saying soothing words to hedge fund billionaires is enough to stimulate growth.
This is likely to face a crash with reality during her meeting this week in New York with Stephen Schwarzman, Blackstone chief executive. It’s highly improbable that the leader of one of the world’s biggest investment funds will be able to commit much to Britain as the US market melts down.
Simply changing name plates on ministerial offices is not enough. The new Government lacks a serious plan to resolve the pressures on public finances, both the immediate and longer-term ones, like an ageing population, or a meaningful strategy to improve the UK’s business environment. This is not helped by an expensive and broken health and social care system. The Government seems to be aware of this problem but isn’t yet willing to meaningfully shift the model in a different direction.
Even in the one area with the most potential for the new Government – fixing Britain’s broken planning system – the ambitious rhetoric on housebuilding is not yet matched by the policy. Its new compulsory targets reduce the expectations for construction where it is needed the most, in London. It also seems incapable of addressing environmental and safety red tape or figuring out how to create positive local incentives, in ways that could really stimulate building.
Instead of taking the fiscal challenge seriously, the Government last week boxed itself into a permanent boost in public sector salaries without expectation of higher productivity. In exchange, it cancelled some major capital spending projects and announced its intent to raise taxes in the forthcoming budget.
The unions could also end up going on strike again very soon, after learning the new Government will succumb to the pressure of industrial unrest and not use “minimum service” laws.
This fiscal plan could look positively foolhardy after this week. Just as the global economy is faltering, Britain is raising taxes on investment and entrepreneurs. The end of non-dom status has already stimulated plenty of talk among wealthy expats about leaving the UK to avoid new tax liabilities. The nation already lost 16,500 millionaires between 2017 and 2023, a loss topped only by China, Japan, and Hong Kong in the last decade. This ultimately means fewer big contributors to the Treasury living, working and starting businesses in Britain.
Meanwhile, there is speculation about an increase in capital gains tax and a reduction in pension tax reliefs in the October Budget. These tax rises would be particularly damaging, dampening interest in saving and investment. According to our research, the Labour manifesto promised 62 increases in regulation, including many major changes to employment law that will push up the cost of employing people.
The new Government has talked a lot about making “hard decisions” to fix the country. Much sooner than most expected, the situation is becoming even harder.
Matthew Lesh is the director of Public Policy and Communications at the Institute of Economic Affairs