What will a hung parliament mean for you?

7 May 2010

With no party having reached the magic number of 326 seats, Britain now has a hung parliament.

A hung parliament occurs when no single party has more than 50% of the seats in the House of Commons. In practice, this means it would be very difficult to get legislation through the house.

The Tories have claimed the most seats and David Cameron has made an offer for the Tories to work alongside the Liberal Democrats. However, it's likely to be some time before the exact shape the new government will take is agreed.

What does it mean?

So what will a hung parliament mean for the economy?

Patrick Connolly, spokesperson at financial advisers AWD Chase de Vere, says the General Election result is a potential disaster for the UK economy.

“There will be nobody with a clear mandate to make the tough decisions necessary to address the huge level of national debt,” he says.

“This means that it will be longer before any effective action can be implemented, by which time our economic position and level of debt could be significantly worse.

“This election is an opportunity missed for the UK and our economic problems are now likely to be even greater by the time they are dealt with. This will eventually mean even more spending cuts and greater tax rises.”

Effect on gilts

Gilts (government bonds) and sterling have already fallen sharply this morning as investors reacted to the election result.

The 10-year gilt has reversed some of its recent gains since trading began at 1am this morning, with the yield climbing 7 basis points to 3.86% by 6.30am.

Sterling has fallen significantly against the euro already this morning, down 1.54% to €1.156 and has dropped 0.85% against the dollar to $1.466. However, some pundits say the falls in sterling are short-term.

"There is a little weakness in sterling simply because the market was recently pricing in a government controlled by the Tories," says Thanos Papasavvas, head of currency at Investec Asset Management.

"It is not yet clear what the situation will be, which means sterling is likely to be a bit more volatile for the next few days, hopefully no longer than that.”

What will happen to UK equities?

Equities are also likely to fall sharply today – as much as a result of the Greek bail-out as the UK’s election result. This, together with the effect on gilts, could affect pension funds which invest in the stockmarket.

Simon James, founding partner at Gore Browne Investment Management, says: “UK equities should have a wide dispersion of returns across sectors. Defensives should outperform more cyclical names, and strong finances will be more important again. Pharmaceuticals, tobacco, food retailers, and telecoms should outperform. Overall, however, the London stockmarket is an international market, not just a local one, and thus UK equities will remain highly correlated with other major stockmarkets.”

The last hung parliament in the UK was in 1974 and led to hard times for savers and homebuyers. Back then, the FTSE All-Share Index – a broad measure of the stockmarket – fell nearly 15% in a month and ended the year more than 50% below where it began. However, the economic climate is very different today than it was then.

Andrew Fisher, chief executive of financial advisers Towry Law, says: “The economic and stockmarket conditions today are quite different from the four-day week of 36 years ago and so it is absurd to suppose that what happened then will be repeated now, simply because of an inconclusive election result.”

But the trouble is, markets hate uncertainty and if no one party has a workable majority then decision-making becomes difficult.

James says: “Uncertainty is bad for markets, and therefore bad for gilts and sterling. The more difficult it is to form a viable government, the more difficult it will be to return the UK to fiscal discipline.

“A further election, perhaps in the autumn, seems probable. This will allow continuing uncertainty. The parties will have to reconstruct their teams and their messages. This will take time - but they are already working on it.”

A falling FTSE

The FTSE 100 has already slumped by 1.3% to 5,193.05 this morning, to its lowest level since February. Banks led the falls, with shares in Royal Bank of Scotland falling 1.76p, or 5.72%, to 45.27p as the markets opened, after disappointing results. Lloyds and Barclays also dipped, falling 2.08p to 54.62p, and 12.05p to 289.65p, respectively.

One fear is that foreign investors lose confidence in sterling – as they did in 1974. If this happens, then the Bank of England might be forced to push up interest rates to defend the pound.

This means that borrowers who have been enjoying low-rate tracker or variable rate mortgages will see their payments increase. Another fear is that a hung parliament could significantly increase the risk of the UK losing its AAA credit rating.

A hung parliament could also result in tax increases all round as party pledges not to raise national insurance and income tax are at risk.

Mike Warburton, senior tax partner at accountants Grant Thornton, says: “Tax increases are inevitable, with the heavy lifting likely to come from income tax, national insurance and VAT.

“The political parties have given various pledges on this but, at the risk of being cynical, I wonder to what extent politicians will feel obliged to keep their manifesto commitments if they do not have an overall majority.”

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