Few doubt that the incoming government will inherit a complex and difficult economic situation. UK capital markets have been a particularly problematic area, which risks starving the corporate sector of necessary funding, and seeing the UK’s prize businesses picked off by international buyers. Politicians appear finally to have grasped the connection with economic growth, but did the manifestos add any new information on their plans?
Prior to the manifesto launches, both Labour and Conservative politicians have acknowledged there is a problem. Chancellor Jeremy Hunt set out the ‘Mansion House reforms’ in July 2023, with the aim of channelling UK pension savings into the domestic market, particularly small companies. He has subsequently launched the British Isa and pushed for UK pension funds to disclose their holdings in UK assets.
Shadow Chancellor Rachel Reeves has also announced plans to reinvigorate capital markets. Dr Adrian Yeo, counsel, Dentons, says she has set out various reviews to identify the barriers to productive institutional investment, in particular she has sought to address regulation-induced risk aversion, a lack of scale in pension funds and establishing an opt-in scheme for defined contribution pension funds to invest in UK growth assets.
He adds: “(Reeves) identifies extending the time-horizon for the British Business Bank’ business plan to enable longer-term investment and encourage initiatives to improve lending to SMEs.” He was encouraged by Reeves’ consultative approach, saying it would offer the financial services sector a significant opportunity to help shape future policies.
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Certainly, urgent action is needed. Another £996.5m bled away from UK All Companies funds in April. Buybacks and merger and acquisition activity supported valuations and improved performance in the UK market, but continue to shrink its size. The IPO market has revived a little, with EY reporting an improvement in listing activity on the London stockmarket in the first quarter of 2024. However, it is small potatoes, with three IPOs raising £283.8m.
The manifestos brought no substantive new measures. Both sides are looking to UK pension funds to support the UK’s flagging capital markets. The Labour manifesto says: “We will act to increase investment from pension funds in UK markets. We will adopt reforms to ensure that workplace pension schemes take advantage of consolidation and scale, to deliver better returns for UK savers and greater productive investment for UK PLC. We will also undertake a review of the pensions landscape to consider what further steps are needed to improve pension outcomes and increase investment in UK markets.”
Peel Hunt says: “This looks a continuation of the current government’s move to change the dynamic of pension funds reducing allocation to the UK, which has done lasting damage to pension schemes, impacted on UK economic growth, and reduced UK tax revenue. Furthermore, Labour may look to move further in terms of speed and scale of change. The Mansion House Compact and the spotlight on UK equity holdings is just for starters. We see changes in pension allocation as the start of a fundamental enhancement in UK investment, growth and market performance.”
It points to the MP’s own pension fund – the Parliamentary Contributory Pension Fund – which has seen its holdings in UK equities drop from £130m to £10m. This is a materially underweight position vs the UK’s share of global stock markets. It adds: “If schemes such as these invested in the UK, we would see an improvement in domestic asset performance combined with stronger GDP and higher tax revenue, which is essential to pay for our public services over the long term. If they choose to fund overseas companies instead, then it is not remotely surprising that the UK economy has pedestrian growth and falling GDP per capita.”
However, Labour has also shown itself willing to target some of the UK’s leading companies. The Institute for Fiscal Studies points out that Labour is proposing to raise just over £6 billion across the next parliament through increasing and extending the Energy Profits Levy – a ‘windfall’ tax on the profits of oil and gas companies. It says: “Labour acknowledge that this revenue would be temporary. Rather than frequent change it would be preferable to get a long-term regime in place.”
See also: Small caps: Stamping out Stamp Duty
A similar problem could arise from the Reform proposal to scrap all interest paid on the reserves created from quantitative easing. This is a seductive idea that could save £30-40bn a year. However, this is money that would otherwise go to the banking sector. This, along with the oil and gas levy, risks the accusation of government tinkering and may deter international investors in the UK market.
Neither party has sought to address the apparently open goal of stamp duty on share trading. Centre-risk think tank the Centre for Policy Studies highlights modelling by the Oxera consultancy showing that abolishing stamp duty on shares could be expected to lead to a permanent increase in GDP of between 0.2% and 0.7% in the long run, alongside an increase in the annual business investment of FTSE All Share index companies of up to £6.8bn.
Among the other parties, the Liberal Democrats proposed scrapping capital gains tax allowance, levelling the playing field between how money earned from investments and from employment is taxed and taxing share buybacks. The Institute for Fiscal Studies was dismissive: “There is no economic rationale for a tax on share buybacks. It would distort companies’ financing decisions and further discourage the use of equity finance relative to debt finance.” It said it was an “economically bad idea”.
Labour has promised a wide-ranging review of the pensions landscape, with the explicit aim of encouraging greater levels of investment in UK markets. This could see significant changes and may improve participation from personal and workplace pensions in the UK market. Nevertheless, it would be a slow shift. For their part, the Conservatives are promising stability on pensions, saying they will add no new taxes, maintain the current system of tax relief and keep the tax-free lump sum. The consistency is welcome, but is unlikely to move the dial for the UK market.
See also: Prime minister Rishi Sunak places ‘economic stability’ at the forefront of election pitch
A change in the mood around the UK may help. Labour is likely to come to power on a platform of stability and consistency, which may give business sufficient confidence to invest. The focus on growth could help as well. Isabel Stockton, senior research economist at IFS, said: “A sustained improvement in growth would make us better off, partly by taking the sharper edges off many of the fiscal trade-offs facing the next government.”
Faster economic growth, greater confidence, financial market reform, and unleashing the power of UK pension funds could all play a role in reviving UK capital markets. It is clear that the major parties understand the problem, even if the solution takes time.
