Credit must go to Gordon Brown

The Financial Times last week ran a story entitled "The City must give credit where it is due", and I think they’re right. In my opinion, Gordon Brown has done an excellent job as Chancellor of the Exchequer. Like him or loathe him, the figures really do speak for themselves.

The Chancellor has consistently stated that his number one aim is to maintain and entrench economic stability in the UK. The figures show that since 1997, UK economic growth has been the least volatile of all 28 countries in the OECD. The UK economy hasn’t grown the fastest over the period – which is not a surprise considering the OECD includes countries such as Slovakia and South Korea – but it has been a clear leader in terms of stability. Gordon Brown’s unerring knack of predicting UK economic growth (predictions that have usually been well wide of those by the City’s best paid economists) has been particularly impressive.

While there have been accusations of goalpost shifting regarding the "Golden Rule", the fact is that Gordon Brown has made a better meal of balancing the books than any other chancellor in UK history (only Roy Jenkins, in 1967-1970 came close, and his politically unpopular attempt to run a balanced budget contributed to Ted Heath‘s surprise election victory in 1970). The UK budget is currently on track to remain balanced over the current economic cycle, and is forecast to move from a deficit of 0.7% of GDP this year to a surplus of 0.2% of GDP in 2008-09 (and remain in surplus thereafter).

Government spending will have to fall if the government is to meet these targets. The government managed to ride out the global slowdown of 2000-02 by increasing spending from 35.1% in 1999-2000 to 39.1% last year, but spending is forecast to fall to 38.3% by 2011-12, fractionally lower than when Labour came to power in 1997.

What does this mean for bond markets? Government borrowing must fall, and since government borrowing is funded by gilt issuance, new issuance of government bonds must fall.

The area of the market that will benefit the most will be long dated gilts. Over the past five years, the surge in government spending has been funded largely by long dated gilt issuance, but the long end has still managed to outperform short and medium dated maturities thanks to pension funds’ insatiable appetite. I expect long dated gilts to reap the benefits of the removal of this supply overhang.

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.

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