No sooner had the new British finance minister presented his program than the currency plummeted. In the "Zero Hour" podcast, Holger Schmieding, chief economist at Berenberg Bank, talks about a government in financial difficulties and the prospects for Germany after the recession.
Zero hour: After the British Finance Minister Kwasi Kwarteng presented his program for tax cuts and energy aid, there was a massive reaction. The pound plummeted against other major currencies. Have the markets overreacted?
Holger Schmieding: Basically, the markets are right. The British are now going into a much bigger budget deficit than expected. About three weeks ago, Prime Minister Liz Truss announced that she would support households and companies far more than she had previously announced. Now, on top of that surprise, she also wants to cut taxes. So significantly more government spending and lower taxes. That was probably too much for the markets.
The UK government is arguing that it is about avoiding a recession and that is the way it wants to go.
Of course it is the case that measures that contain the increase in energy prices for households and companies in particular will dampen the recession. They dampen inflationary pressures. That actually helps. Tax cuts, on the other hand, only have a long-term effect. It will take a long time for companies to respond with more investments. Especially in a recession that Britain, like Germany, is probably already stuck in.
Now the British government has maneuvered itself into a corner with this programme. A weak pound can become a problem for the economy.
The weak pound is not a very big problem. Of course, this makes imports a little more expensive, but the economy can export a little cheaper. But of course there is a risk if the whole thing continues and if this means that interest rates may have to rise even more. This can then result in investors withdrawing from Great Britain.
So the UK government's attempt to avert the recession is basically doomed, as you say. What can be expected for the country in the medium term?
Actually, it doesn't really matter that much what's happening right now. Much more important is Brexit and its consequences. Since the June 2016 Brexit referendum, we have seen companies from the UK and around the world invest significantly less in the country than before. The UK has fallen sharply behind the eurozone as a location for investment after actually being more attractive overall until 2016. The country is currently not a good location to produce there or to offer services there that are then to be exported to Europe.
The current program is also seen as an attempt to break out of the Brexit quandary. Is it suitable for this?
I consider it inappropriate. The program will bring something, deregulation will bring something. But that's secondary to the damage done by uncertainty about Britain's future relationship with the EU. And so far, Liz Truss has apparently lacked insight into what would really advance the country. Of course, as British Conservatives, it's also difficult for them to admit that Brexit isn't going as well as promised.
You can hear the whole conversation with Holger Schmieding in the new episode of "The Zero Hour"
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