What does the election result mean for the UK economy?

cameron HS image-20150429110813567.jpgThere was a palpable air of relief in the City on the morning of May 8th. Champagne corks could be heard popping in some offices where, it has been said, there were also cheers as Ed Balls, the man who would be chancellor, lost his seat.

The City always favours a Conservative victory, but where does this slim majority government really leave the UK economy and its all-important financial services sector?

Sterling and the FTSE surged when it became clear Ed Miliband would not be prime minister. Leading the charge were sectors must at risk of Labour policies; property, energy, defence, and tobacco stocks all climbed.

Pro-business

Tougher bank levies will be avoided, but the Conservatives are still committed to increasing the levy and to breaking up banks' retail arms.

Anthony Browne of the BBA warned the higher levy would “disadvantage UK headquartered banks by increasing tax on their overseas activities, while their competitors in those markets do not pay this tax at all”.

HSBC has sounded the first warning signal. Why pay punitive taxes in the UK when most of its earnings are abroad? George Osborne, intent on building a northern powerhouse, may not care if Europe’s biggest bank shuffles off back to Hong Kong.

Broadly, though, the Conservatives offer a stable investment environment, argues Azad Zangana, senior European economist at Schroders.

“The clarity delivered by the election will boost activity as households and businesses can take investment decisions with greater certainty over tax and regulation,” he says. David Cameron has committed to not raising taxes for the next five years.

Sajid Javid, the new business secretary, is a welcome appointment. A former banker who worked at Chase Manhattan Bank and Deutsche Bank, he is a free market capitalist in the old mould. His swipe at the unions, to make it harder to strike, is a clear signal of intent.

Brexit?

While the Tory win means secure pro-business policies at home, it’s from foreign markets that most of the FTSE 100’s earnings are derived. And for them, the prospect of in-out referendum on the UK’s membership of the European Union (EU) is cause for concern.

“In time, the focus of investors will shift to the uncertainty that will come ahead of the proposed referendum on the UK's membership of the European Union in 2017, which could prompt some domestic and overseas investment to be delayed,” says Zangana.

 Uncertainty over the UK’s future in the EU could throttle Asian investment. Britain, with its pro-business laws and tax regime is a key entry point for Asian firms tapping the vast EU market. Japan alone has more than $8 billion in the UK through 900 firms.

Kazuyo Yamazaki, senior economist at the Daiwa Institute of Research in Tokyo, told AFP that Asian businesses could “think again" about making fresh investments in Britain if it leaves the EU. "A major reason for investors to choose Britain was that it is within the EU. If Britain leaves that, the attraction would disappear,” she said.

British business is similarly inclined. “The majority of businesses want to stay in a reformed European Union which opens up the world’s largest market of 500 million consumers,” said CBI director-general John Cridland.

London’s status as a leading global financial hub could be dented if it were to exit. And analysts seem sure that big foreign investments will be put on hold until after the vote.

David Cameron has indicated the EU referendum could be brought forward to 2016. The sooner the vote takes place the better.