THE BLOG

Sterling May Be the New Swiss Franc

15/01/2015 12:02 GMT | Updated 16/03/2015 09:59 GMT

This year's UK general election, on 7 May, seems at first sight to be the most open and unpredictable in a generation, at least that has become the accepted wisdom. There will be 650 seats up for grabs, on our gloriously simple 'first-past-the-post' basis; no proportional representation, no single transferable vote, etc, etc. In the present Parliament, the Conservatives, (or Tories) hold 303 seats and the Liberal Democrats have 56, giving their sometimes fractious coalition a comfortable majority.

But the apple cart has been well and truly upset by the upsurge in support for the UK Independence Party, (UKIP), who are now polling at roughly 15%, from 4% in 2012, and the collapse of the Labour Party in Scotland, with the Scottish National Party, (SNP), rampant. The Liberal Democrats would only scrape together 5% right now.

Whence has this UKIP support come? Roughly equally from all three parties is the simple answer, leaving the Tories and Labour apparently neck and neck at about 34% which, due to years of gerrymandering and other psephological quirks, would leave Labour as the largest party in Westminster, i.e. the party with the most seats.

It's a pretty safe assumption that the approach of this exciting election will certainly imply volatility before the event, possibly leading to a lower GBP, but the currency will be ransom to the results of interminable polls.

Immigration and the economy rank as top issues for the electorate, and the economy is looking pretty good-almost a post-crisis poster boy-but the Conservatives will be frustrated that UKIP headlines have caused the Immigration issue to usurp the feel-good factor that an improving economy usually to brings the voter.

However, I feel the current polls understate the chances of a Conservative victory, certainly of a Conservative-led coalition, although this may be of a different hue; the Prime Minister has already moved the Tory immigration agenda towards UKIP's position, even hinting that a referendum on Britain's continued EU membership may come earlier than the originally expected 2017 date and a shortened timetable implies less negotiation, and presumably more likelihood of exit. The probability is that die-hard Tory voters, who have recently switched to UKIP in EU and local UK elections, will be encouraged by this shift in the Tory immigration agenda and will actually put their cross next to the Conservative candidate when they get into the polling booth.

Polls suggest that a vote to leave the EU in a referendum is much more likely in the absence of successful negotiations which bring powers back to London from Brussels.

So the chances of a Conservative/UKIP coalition are on the rise and the LibDems may even be tempted to join, now that they have tasted some power over the last five years after decades in the wilderness. However, a Labour/UKIP coalition is most unlikely.

Then there is what pollsters refer to as response bias, i.e. respondents lie, and this has consistently led to underestimates of the ultimate Tory vote; voters may feel the Tories are 'nasty', (e.g. tougher when it comes to government spending on social welfare), or just there for millionaires, so their hearts tell them to say they'll vote for someone else, and they're slightly embarrassed to admit they'll vote Tory, but their heads take over in the privacy of the polling booth.Finally, the SNP might take up to fourty seats away from Labour in Scotland.

A Labour victory will, at first, be a sight negative for GBP, due to the likelihood that the budget deficit rises as a result of an unedifying and unequal mix of higher spending and higher taxes, a very unfriendly combination for business, but on the other hand there will be no referendum or prospect of EU exit.

Some commentators worry about the UK c/a deficit at 6% of GDP in Q3 2014, but I am more sanguine, as the deterioration has been caused primarily by a deterioration in the net income position, (i.e. dividend and interest payments to foreign investors in British assets, less that which we receive on our overseas investments), and, if anything, that sounds like a vote of confidence in the UK.

Whatever the outcome of the election, I feel the market is already discounting the bulk of the downside scenarios for GBP and so, certainly against the Euro, I expect sterling to end the year substantially higher, with 0.70 for EUR/GBP being a realistic target. The Swiss experience may be relevant here; a flourishing European country that is not an EU member-and who knows, the Bank of England may find itself drawing its own line in the sand to stem sterling strength against the Euro.

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