The waiting is almost over. Conservative party members have made their choice. This week a new prime minister will be installed in Downing Street at the most testing time imaginable. Even February 1974, when Harold Wilson came to power and ended Britain’s three-day week, doesn’t really match up to the omni-crisis with which Boris Johnson’s successor has to grapple. Arguably, it is the grimmest inheritance since Winston Churchill’s in May 1940.
All the smart money is on Liz Truss winning the race, although in retrospect it may come to be seen as a Pyrrhic victory because the new prime minister will arrive in office with the economy about to hit the wall, energy bills soaring, the pound crashing and the global financial markets selling off.
In more normal times, NHS waiting lists and the prospect of hospitals being overwhelmed by a winter flu outbreak or a new strain of Covid-19 would be the incoming government’s top priority. In the coming few weeks, though, there should be one priority and one priority only – and that is to avoid economic meltdown.
Throughout the seemingly endless Tory leadership campaign, Truss has been radiating positivity, but the time for boosterism is over. October’s jump in fuel bills is less than a month away, and will make households considerably worse off. Last week, the Resolution Foundation thinktank said the impact of higher energy costs would wipe 5% off household spending power this year and a further 6% next – together the sharpest decline in living standards in at least a century.
The prospect of mass immiseration is leading to a sell-off in the pound. While it is true that currencies generally have been falling against the US dollar, sterling’s decline has been more pronounced than most. The pound ended last week at about $1.15 against the dollar and looks as if it has further to fall. Further economic bad news – of which there is likely to be plenty – could lead to sterling heading rapidly towards parity with the US currency. A falling pound adds to inflation by making imports dearer.
International events are also conspiring to make life more difficult for the new prime minister. The veteran investor Jeremy Grantham said last week the world was entering the last days of a super-bubble before a monster financial crash, made worse by the deliberate attempts by the US Federal Reserve and other central banks to bear down on inflation.
“The current super-bubble features an unprecedentedly dangerous mix of cross-asset overvaluation (with bonds, housing, and stocks all critically overpriced and now rapidly losing momentum), commodity shock, and Fed hawkishness. Each cycle is different and unique – but every historical parallel suggests that the worst is yet to come.”
Time will not be on the side of the new PM because the deadline for the next election is little more than two years away. It is possible the worst of a period of stagflation – a recession combined with rapidly rising prices – will be over by 2024 but it is starting to look awfully tight. There is already speculation, on both left and right, that Truss might call a snap election on the basis that the economy is rapidly heading south and she needs a mandate to sort things out. In that respect, she faces the dilemma Gordon Brown had in the autumn of 2007 when the financial crisis was in its early stages: the situation is not great but may be as good as it gets for some time. Against that, politicians who have spent their entire career scrambling to the top find it hard to take the risk of losing power quickly when there is no need to do so.
In truth, it makes little difference whether there is an early election or not because the strategy should be the same in either case. Truss’s premiership is likely to be defined by decisions made in her first few weeks in office.
The pretence that Britain’s problems can be easily solved must be dropped. The cost of living crisis poses just as serious a threat to the economy as the pandemic and it is the time to put the country on an economic war footing.
In the spring of 2020, the government borrowed heavily to fund the furlough and its various support packages for business. Sunak, then the chancellor, decided that keeping the economy afloat was more important than keeping the books balanced, and he was right to do so. Once again, the government needs to spend quickly and spend big, even if that means adding tens of billions of pounds to public borrowing,
Full advantage must be taken of the emergency budget being prepared by the Treasury for the new government. Officials take it as read that Truss will insist on going ahead with her plans for tax cuts but also assume that the new prime minister will want to provide more direct support for consumers and businesses. Truss and her new chancellor – expected to be the current business secretary, Kwasi Kwarteng – need to choose carefully from the menu of options, mixing some universal support with help more targeted towards the neediest households.
Not all the things that need to be done can be done quickly, so there will need to be a second set of announcements in a full budget later in the autumn. This month’s mini-budget should provide some idea of the likely direction of travel, such as a commitment to improving Britain’s woefully inadequate home insulation and enhancing energy security.
The brutal truth is that it is already too late to prevent a recession baked in for this winter. It is not late, though, for Truss (or Sunak) to ensure it is at the milder end of the spectrum.