Evercore Pan Asset

This week saw disappointing figures on unemployment and inflation for the UK. The economy is recovering, and the private sector is generating new jobs, but price rises remain high and that is squeezing consumption and domestic demand. To achieve the big shift needed into more productive and export oriented activity, the UK needs to be competitive in many fields.

On Thursday the UK government announced its new energy strategy. It is a comprehensive package to increase electricity generating capacity, to replace old and inefficient power generation plants, and to cut the carbon output from UK production. The forecast of substantial new investment in generating plants will give a welcome boost to activity in due course. The aim is to spin off investment and export sales from the development of new green technologies.

The policy has a lot in common with other European countries. It seeks to get the UK up to the required 15% renewable electricity generation laid down by the EU. It will entail a guaranteed minimum price for electricity from renewable sources to reassure investors in green technologies. It will require a carbon floor price, a tax on those generating power from carbon based sources, to cut the use of high carbon plants. It will back up this discouragement with regulatory limits on how much carbon dioxide can be emitted from any given plant, as EU regulation does. There will be capacity payments to ensure sufficient excess capacity is installed to back up renewable sources like wind power which are intermittent, depending on the wind.

This means the UK will face rising bills for power over the next twenty years. As the UK’s economic strategy is based on the proposition that the country needs to manufacture and export more, the energy policy is not helpful when it comes to activities with high energy content. The government needs to be careful if it wishes to make the UK a preferred location for new manufacturing plant.  In recognition of this the Chancellor and Business Secretary have formed a deregulation panel to seek to cut other regulatory costs on business.

There are similar problems with UK financial sector competitiveness. The tax on bank balance sheets will encourage banks to take some balance sheet intensive activities offshore, or to run down more marginal books of assets. The EU bonus arrangements, the growing volumes of EU regulation, and the 50% tax rate all act as stimulants to overseas locations for individuals, teams and even whole businesses. The UK financial sector remains an important source of jobs, output and tax revenue, even after the Credit Crunch.

The UK has the advantage of a large devaluation against dollar and Euro behind it, which has made the UK more competitive. UK markets are still more flexible than many on the continent and that is an advantage. It needs to be careful lest it imposes too many extra taxes and new rules that impedes growth at a time when inflation and the general squeeze will make its impact felt. Rising government borrowing rates in the last few weeks add to the importance of getting the deficit under control. We expect modest growth next year, with reasonable prospects for leading companies with strong overseas market positions.