Radical uncertainties

    5 March 2016

    We live in a time of disequilibrium and radical uncertainty. So says former Bank of England governor Mervyn King in his new book The End of Alchemy — and he should know, having served in the front line throughout the 2008 financial crisis and its aftermath, and had time in tranquility to think about its causes.

    The disequilibrium that lingers from that crisis has been a motive force behind the stock market falls of early 2016. The fear that has turned share buyers into ditherers and sellers may soon also infect business investment and consumer confidence.

    Meanwhile, the greatest uncertainty for the UK is the question of our future in or out of the EU. Between now and the referendum on 23 June, noisy opposing campaigns will be a huge distraction to economic decision-making. If we vote to leave, the foreign exchanges have already warned what will happen to the pound: the mere fact of Boris Johnson joining the ‘out’ campaign caused sterling to dive against the dollar. But years may pass before the predicted benefits of freedom in trade and regulation feed through into the real economy. If we vote to remain, we’ll never know what the counter-factual might have looked like. And if wider forces of disequilibrium drive the world to a new banking crisis and another recession, we’ll never know whether the pain would have been greater or less if we had made the opposite referendum choice.

    Faced with so many unanswerables, how can investors, pension savers and parents worried about their children’s prospects arrange their financial affairs for safety and long-term prosperity? Faced with the Brexit ballot paper, how should you vote if you believe economic considerations ought to prevail over emotive issues of migration and nationalism — or inter-nationalism? In this issue of Spectator Money, we set out the factors you need to measure against your own circumstances to reach a rational choice.


    First, disequilibrium: what it means and how to cope with it. All investment prospects are currently distorted by ultra-low interest rates that are likely to remain for at least one and perhaps several years. Why? Because investors panicked at a first small rate rise by the US Federal Reserve in late last year. Because central banks fear higher borrowing costs (particularly combined with a stronger US dollar) could trigger a ‘debt crisis’ in sectors and countries that have taken advantage of low rates to amass unpayable loans. And because sustained low rates are the easiest monetary response to sluggish growth, weak productivity and an absence of structural reforms to create more efficient markets. That last point is most vividly demonstrated by the frailty of the eurozone, which in itself represents a major element of global disequilibrium: an economic bloc that is condemned by its structure and politics to be a permanent under-performer — with knock-on effects for trading partners, including the UK.

    And the only other monetary tool avail-able, in the eurozone and elsewhere, is quantitative easing, which adds yet more distortion by artificially boosting asset prices and setting them up for a fall. The net effect of all this for the private investor is not encouraging: deposit and annuity rates will remain low, and the FTSE 100 index — though by no means overpriced at current price-earnings ratios — will stay in bear territory, notching downwards more often than it rallies and revisiting levels first seen as long ago as the late 1990s. The only consolations, for the time being, are the near-absence of inflation (so long as it doesn’t turn to deflation) helped by low energy costs, and a continuing rise in the value of bricks and mortar — so long as you’re already a home owner, that is, and not a would-be first-time buyer in London and the south-east of England. The way in which house-price growth has outstripped equity returns over the past decade is yet another distortion we have had to learn to live with, and one that has led to much misallocation of capital.

    But still we have to allocate our savings across the available range of financial assets. Is there a way to invest profitably for the long-term, even in such uncertain times?


    There is of course no single safe — let alone surefire — answer to that question. But Spectator Money’s seasoned pros, Robin Andrews and Louise Cooper, give vital guidelines in this issue. Try to look beyond current turmoil towards sectors such as healthcare for which demand must rise, or cyclical sectors — even commodities — that must one day recover. Diversify across geography and asset class. Don’t try to be too smart about market timing, and don’t bet on volatility unless you’re very bold indeed. Keep your trading costs low and —a timely reminder for the Isa season — take every tax perk on offer.

    Above all, don’t be paralysed by the possible outcomes of the Brexit vote. If we stay, the modest package of reforms negotiated by David Cameron in Brussels last month seem unlikely to make much real economic difference. British business leaders were already largely convinced of the merits of staying in, and their opinions won’t be swayed by the ‘out’ campaign’s dismissal of the Cameron deal as a negotiating failure and an inadequate sham: the ‘outers’ were never going to congratulate him, whatever he brought back. But the official voice of the City of London, TheCityUK, has praised the prime minster for protecting our ability to regulate our own financial sector, and securing safeguards against over-dominant eurozone interests within a multi-currency EU.

    Other voices continue to warn that Brussels is incapable of real reform, or of suppressing its urge to erode London’s position as the pre-eminent global financial centre. But if we vote to ‘leave’, change may also (after the inevitable bout of turbulence) be more muted than campaigners claim or devoutly wish for. The City’s veteran Europe-watcher Rodney Leach talks of GDP impact of no more than ‘plus or minus 1 per cent’. Ross Clark thinks the London property market won’t suffer from an exodus of European investors and workers. And Theodore Dalrymple is confident that the many thousands of British expatriates living on their savings in France will be able to stay there undisturbed.

    The art market, which Christopher Silvester investigates, is another sector, alongside finance, in which the UK’s dominant position has long been under attack by the rule-makers of Brussels. But several of our writers pause to wonder just how quickly all those tiresome EU rules will actually be erased from the UK statute book — or whether they will simply be replaced by red tape of our own.

    So this is far from an open-and-shut argument — and one that, given a looming sense of an economic turn for the worse, many savers and citizens would have preferred not to address right now. But still we have to choose, for the country and ourselves, and June’s referendum result will at least remove one layer of radical uncertainty.

    As our ‘Speculator’ columnist Freddy Gray writes, ‘remain’ looks the safer bet. But beyond the shouting and short-term market turmoil, ‘leave’ — we suggest — looks increasingly attractive. The key question is the one asked by our rational economist, Warwick Lightfoot: ‘How could we not benefit from being able to make national decisions about trade and regulation?’ In short, there’s a world of opportunity out there for a resurgent UK in command of our owneconomic destiny.