Why Middle East crisis is tempering optimism over UK economy

Businesses are in a spin. They don’t know if they’re coming or going.

Two months ago a state of certainty settled over our boardrooms. The election had been decided by a thumping majority. Admittedly, the winners were Labour, but the party’s leader, Sir Keir Starmer and his chancellor, Rachel Reeves, had gone out of their way to win over sceptical capitalist minds. Commercially-minded folk thought they had little to fear from them.

The size of the victory meant the years of political turmoil were over, and it was possible to look ahead to five, 10 years, even longer, and have a fair idea of how Britain would be faring. On the back of this, surveys that measured business confidence were registering positive, and house prices also began to rise on this newfound optimism.

Then, Starmer and Reeves reneged. The talk was all about a hole in the national purse that needed urgent covering. That meant targeting those who could afford it – the wealthy and the business community – with increased taxes.

No matter that the Tories insisted there was no yawning chasm, the ground is now set for rises in capital gains and inheritance tax, to mention just two levies thought to be in Labour’s crosshairs. This, after the imposition of VAT on school fees – which in hindsight ought to have served as a warning.

Suddenly, the mood at the golf clubs and other places where the suits choose to relax has turned sulphurous. There’s a strong element of “told you so” and “was ever thus”. Now their chat is about relocating overseas, and to hell with Sir Keir and his chums.

Feelings have not been helped by evidence that Starmer’s standards are not much different from those of the previous lot. His acceptance of clothes, spectacles and other freebies simply would not be countenanced in the commercial world, yet somehow Labour always feel able to take the moral high ground where corporate Britain is concerned.

Buoyancy was already waning by the time conflict erupted in the Middle East. The surveys registered the biggest drop in UK manufacturing confidence since March 2020, the housing market also slowed.

That confidence, such as it lasted, has virtually evaporated. All eyes are now on the oil price, worries abound about supply chains and getting ships through the Red Sea and Suez Canal. Once again, events in the world’s most troubled region have blown apart the best-laid plans.

At such moments, the board instinct is to batten down, to put spending on hold and to stall expensive decisions. It may be that calm is quickly restored to the Middle East, but there is little sign of that at present.

It’s a pity because Britain was finally winning the fight against inflation. This week, Andrew Bailey, the Bank of England governor, even went so far as to promise “aggressive” cuts in interest rates, so certain was he that inflation had cooled.

There was, though, a caveat – he said provided the news on inflation continued to be good. That’s where the Middle East comes in. If that oil price climbs and stays high, if total war ensues, then all bets are off.

That’s what the Bank’s chief economist, Huw Pill, implied when he spoke barely a day after Bailey had pledged further rate cuts. Pill warned against cutting them “too far or too fast”.

Pill, who sits on the Bank’s nine-strong interest-rate fixing committee chaired by Bailey, said: “While further cuts in Bank rate remain in prospect should the economic and inflation outlook evolve broadly as expected, it will be important to guard against the risk of cutting rates either too far or too fast.”

What was troubling Pill was the likelihood of wage inflation caused by larger numbers than expected leaving the labour market post-Covid. Vacancies for skilled workers exist in almost every sector and employers are having to offer higher salaries to attract the right people from a smaller pool.

But Pill could equally have been referring to the global situation when he made that qualifier, “should the economic and inflation outlook evolve broadly as expected”.

No sooner have we emerged from the pandemic and become used to the effects of the war in Ukraine than along comes another event to promise a bout of upheaval. It’s the not knowing, or rather the “not being able to predict with any degree of certainty”, that businesses hate the most.

They thought they had it when the election was decided, only to be shaken by Starmer and Reeves. Today, they’re casting anxious eyes eastwards, wondering what will unfold between Israel and Iran and whether other countries will be drawn in.

Meanwhile, Reeves is due to deliver her first Budget at the end of this month. The City and industry live in hope that the Middle East conflagration will end soon, that order will return. Likewise, they like to suppose that all the talk about raising taxes and hitting the wealthy and business is just that – all talk.

They don’t know and that provokes caution. The loser in all this is a British economy that was proving resilient, was in better shape than many of its European peers and was ripe for investment. Alas, that will have to wait.