Summer Budget 2015 cuts to the surprise factor

Our overall assessment of this Budget is that it was woefully short on surprises. Pretty much everything that was announced by Osborne today was well-signalled in advance. “Shocks” were only minor, and, apart from a few sectors, the market shrugged off Osborne’s fiscal plans for the years ahead.

Budget highlights:

Economic:

• UK GDP forecast for 2015 reduced to 2.4% from 2.5%
• No change to 2016 GDP forecast and 2017 GDP expected at 2.4%.
• UK Budget deficit expected to be irradiated and turned into a surplus of GBP 11bn by 2020-21 fiscal year.
• UK Living wage to rise to GBP 9/ hour by 2020.

Tax measures:

• Bank levy to be reduced over the next 6 years, however a new 8% tax surcharge will be applied to bank profits.
• Insurance premium tax to rise to 9.5% in November this year.
• Inheritance tax threshold to rise to GBP 1 million in 2017.
• Corporation tax to be cut to 18% by 2020.
• Fuel duty to remain frozen this year.
• Inheritance tax scrapped on family homes.
• Cut to pension tax relief for high earners.
• Buy-to-Let mortgage tax relief to be restricted.
• National Insurance cut for small businesses.
• Permanent non-dom tax status to be scrapped.
• Tax bands for new cars to pay for road fund.

Spending:

• Tax credit benefit limited to 2 children.
• UK welfare cap cuts.
• Government committed to spending 2% of national income on defence.
• An extra GBP 8 bn for the NHS.

Analysis:

Overall, this Budget was focused on tightening the fiscal screws and bringing down the UK’s deficit. Osborne and co. have a mountain to climb to reach a GBP11 bn surplus in the first year of the next Parliament, currently the UK’s deficit stands at over GBP 60 bn.

Giveaways were limited, and generally well-signalled in advance. Banks and homebuilders seem to be the most disappointed from this Budget:

• HSBC is down 2% since Osborne started to talk. The news that the bank levy was to be reduced, only to be replaced by another surcharge on bank profits, neutralised the good news. It could also accelerate plans for banks like HSBC to relocate their headquarters outside of the UK.
• The homebuilders are the weakest performers on the FTSE 100 today. Although there was no change to council tax valuations, the news that buy-to-let mortgage tax relief would be restricted was enough to send Barratt, Wimpey and Persimmon down by 5% and 4% respectively. The buy-to-let market is huge, so anything that makes it less attractive could reduce home building down the line.
• There was some good news on welfare cuts, because tax revenues were higher than expected, the GBP 12 bn cut to the welfare budget will be spread over 3 years, not 2 years as previously thought.
• The FTSE 100 has backed off its highs as banks and homebuilders suffer the effects of this Budget, but the UK index is still higher on the day, up some 1%.
• The cuts to welfare have been mollified somewhat by the increase in the living wage to a decent GBP 9/ hour by 2020.
• Business may have squawked at the increase in the living wage, however, the Chancellor cushioned the blow by cutting corporation tax.
• The GDP forecasts were also better than some expected. The 2015 forecast was only cut by 0.1% to 2.4%, and the 2016 forecast was left unchanged.

The market reaction has been limited, as we mentioned above the FTSE 100 has backed off its highs, although it is still higher on the day, in line with other European indices. Sterling has barely changed on the back of the budget and overall we think that this Summer Budget is basically GBP neutral. The pound has been falling pretty much consistently since the 18^th June, which has nothing to do with George Osborne and more to do with declining expectations of a UK rate rise this year. The break through the 200-day sma at 1.5439 this morning, is an extremely bearish development, but this was also unrelated to the Budget, in our view.

Overall, homebuilders and banks may continue to struggle in the coming days as the impact of tax changes to this sector is priced in by the market. However, we think that Osborne will be happy that he was able to deliver his Budget while at the same time as treading lightly on UK financial markets.