252. The £1 trillion war chest: why the UK is stronger than you think

14:58Robert:A company that reaches a billion dollars is a unicorn, isn't it? And we're producing them. That's what I'm saying. I mean, again, the things that don't reach the headlines.

15:07Steph:We don't want to talk ourselves into thinking we are not actually, in many ways, a very successful wealth-generating, enterprise-generating economy. The wealth may not be shared fairly enough, but we're by no means dead as an economy.

15:23Robert:Absolutely. I mean, we're in a, so, you know, you asked me, Robert, about productivity and I said, the current data, you know, I don't feel that we're seeing a huge productivity revival, but there are nascent signs. And where we're all watching and starting to get excited is we know we're at the beginning of a massive technological change because we've built all these artificial intelligence capabilities. Now, that has largely that activity been in the US because it's been the Googles and the Amazons that have been creating these massive data centers in order to power artificial intelligence. But we're now moving into the next step where it's going to be all of these little companies, or maybe not so little, who are going to work out how do we bring artificial intelligence into corporate life and into household life.

16:15Robert:And that's where the UK looks great. So if you take, for example, Stanford are one of the leading researchers on how AI is proliferating through the global economy. And they rank us in the UK as number three on their list. So it's the US, then it's China, and then it's little us in the UK. And that's because Cambridge, Oxford, Imperial, we've got these universities that have really invested, been way ahead of the game in creating these centres of excellence, training people. So I'm really excited about how as we transition into this new stage of AI impacting the world, we could be a real leader in that endeavour.

16:58Robert:Yeah.

16:59Karen Ward:And you talk as well, you know, you talk about these catalysts, don't you? And that being one of them, AI. But there's also other things going on in Europe as well, like Germany is now on a bit of a spending spree. And that could be something we could benefit from.

17:11Robert:Yeah, absolutely. I mean, we sort of look in awe at Germany's low level of government debt. And, you know, we talked about our fiscal troubles here. They have been incredibly prudent for the last 20 years and they've got money to spend. They are trying to spend 12 % of their GDP over the next few years. That's not a small amount of money. And they are still, you know, one of our biggest trading partners. So as the German economy revives, that will filter across Europe. Despite Brexit, you know, we are still trading with Europe. There's still a very important trading partner for us. So I hope we'll be lifted by that.

17:45Robert:And the other thing that's going on here that's positive in the UK is our Achilles heel is that inflation has been really stubborn here. It came down really quickly after the pandemic in the US. It then came down very quickly on the continent. It's been really sticky here. and uncomfortable. You know, households, again, why are they saving? Feeling that, oh, gosh, I'm back in the supermarket. My bill's gone up 5 % again. That is finally easing. And that's some of the government policies trying to push down energy costs. You know, we can thank the government for some of that stuff in the budget.

18:20Robert:But inflation could be back closer to two within the next couple of months. And that might mean the Bank of England, they seem to be moving in that direction, that they could give us a couple of rate cuts, take their foot a little bit off the break, and that's all going to help as well.

18:36Karen Ward:Karen Lorsmore still to ask you, but sit tight for a couple of minutes for a quick break.

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19:41Karen Ward:This episode is brought to you by Vanguard. Now, when it comes to your finances, you want to work with companies you trust, don't you? It can be really complicated when you're investing, you know, trying to work out where your money's going. And it can be confusing, can't it? And that's where Vanguard comes in because they always put investors first and they're delivering on that promise for 50 million investors worldwide with a wide range of funds and a platform that keeps costs low and makes investing simple. You can also open an ISA or a self-invested personal pension, choosing investments yourself or letting Vanguard choose them for you.

20:19Karen Ward:Search Vanguard Investor to find out more. Now, when investing your capital is at risk, tax rules apply. I mean, one of the things that's quite striking in Keir Starmer's...

20:33Steph:It hasn't been an easy time, shall we say, for the Prime Minister. Oh, wow. We've been talking about lots of people losing their jobs. He seems somehow to still have his.

20:46Karen Ward:At time of recording.

20:49Steph:But when he talks about, you know, why he's the right person for the job and why he insists he's going to be here for years to come. One of the things he does say is he repeats what you were saying at the beginning of the programme is he's very hopeful. This is going to be a much better year for economic growth. And he trots out, you know, we've had all these interest rate cuts and more are going to come. You know, the cost of living is falling. And what he's trying to do is claim credit for these trends. I mean, you as an economist, do you think if we are in for a better year in terms of inflation and growth, that's despite the government or because of the government?

21:37Steph:Is he right to try and claim some credit here?

21:40Robert:I think there are things they can claim credit for. I mean, the last budget of trying to push down inflation, the measures that they enacted are really helpful in probably taking off at least a half a percent of inflation.

21:55Steph:So this is the power, the deal on energy prices and railfares and that kind of thing.

22:02Robert:Yes, absolutely. And then I think, you know, the front bench have been trying to put together a very credible fiscal plan. They haven't always had support from the backbench. Obviously, the welfare reform didn't get supported. So I think, you know, they have been this this particular front bench, I think, have been very mindful of the fact that we have three trillion pounds worth of debt. We're spending well over 100 billions a year servicing that. Let's just try and keep the bond market on our side. Because then if we can get growth going, I mean, this is what I think is just so important for us all to acknowledge in the UK.

22:41Robert:Coming back to what you said, Robert, we know we've got some lots to do in living standards, improving inequality. But we have to do that via growth. We have to get growth in the economy going. That will generate in turn the tax receipts. Then we can work on some of that. Whereas I think what we've been trying to do so far of quickly, let's spend tax to pay for it today. That is not getting growth going and it's not a sustainable plan. So, you know, I do give them credit for I think the fact they have been trying. They haven't always had the parliamentary party behind them.

23:16Karen Ward:Can I just on the point, though, about, for example, inflation. You know, we mentioned earlier about the pressure of the minimum wage going up for retail. There's your hospitality who are big employers, you know, employee heavy. That's a lot of their cost. And also they employ lots of young people. Often, you know, it's people's first jobs and things like that. That along with the business rates, along with the increase in national insurance contributions, that inevitably is going to push up prices in those sectors. And so isn't that the government increasing inflation there?

23:49Robert:Yeah, absolutely. But I mean, again, I think we have to come back to how did the front bench perhaps get to some of those tax decisions for the spending announcements that they wanted to make? It was a journey of the party, not necessarily what Sir Keir Starmer and Chancellor Rachel Reeves began with as the plan. I mean, we saw obviously the plan evolve and that was very much on feedback from the backbench. So I think we'd have to sort of remember that the front bench are delivering what they can. I mean, they have a big majority, but we know huge divisions within the party. So, you know, we have to sort of be mindful of they are, they've already been somewhat limited in what they wanted to achieve and can achieve.

24:32Steph:And go just ask, you know, whenever there is speculation, you know, that Starmer might be thrown out or Rachel Reeves might be sacked, we do see government bond prices, UK government bond prices falling. We see yields, effectively the interest rate the government has to pay rising. And as you pointed out, the interest the government pays annually is well over£100 billion. That is money that we weren't paying it out in interest could help schools and hospitals. That's a big sum of money, right? What is the sentiment of those who lend to the government, who buy government bonds? Would they be pretty panicky if there was a period of uncertainty about who the British Prime Minister would be?

25:18Robert:Absolutely. We see it in bond markets on a daily basis. I call it the who's next premium in gilt yields because, you know, the market has global investors have lots of opportunities about where they want to put their money. You know, global stocks are booming. Interest rates are higher for across the world. And so, you know, investors have a choice. So when they're deciding, do I want to lend it to the UK government or the German government or the US government? And, you know, they're making a decision on the likelihood of getting their money back in real terms. And if you hear somebody who says, like, we want to spend lots straight away, you know, we've got great stuff to do.

26:05Robert:We're back in a sort of Liz Truss moment of thinking, well, hang on, how safe is my money if I deploy it in the UK or maybe I'll deploy elsewhere? So we are seeing definitely daily gyrations in bond markets as different candidates are being brought forward and taken off the table. Absolutely, it's affecting my day job.

26:28Steph:If they were thinking about just stability of markets, you would say to the Labour Party, can all this talk about replacing the leader?

26:34Robert:I would say be very mindful that you are borrowing almost£100 billion. pounds. The idea that the bond market doesn't matter is a bit like me saying, I don't care about the bank that provides my mortgage. They are absolutely critical to my future. And so make sure you are backing a front bench that can deliver sustainable fiscal policy.

27:05Karen Ward:On the point though, you're bringing up Liz Truss, her downfall and the whole bond market issue was to do with she wanted to bring in growth with basically unfunded tax cuts. And interestingly, if you look at Japan with the new prime minister there, we were talking about how she had a kind of Liz Truss vibe in that she had all these big plans for tax cuts and spending, which the bond markets for a while were looking like were unfunded.

27:32Robert:I mean, everybody's up to this. every government pretty much around the world i can't think of any that's springing to mind particularly at the moment are not under political pressure and that's because of some actually big structural stuff inequality aging populations like how governments are going to get through and please their electorate over the coming years is a tricky old job for any everyone It's much easier to tell your electorate, of course, you can have it all. And what's happening in Japan is, you know, exactly as we're seeing elsewhere, is cost of living pressures have been. I mean, Japan's wanted inflation for the last 20 years.

28:13Robert:Talk about careful what you wish for, because now it's here. They want to ease that inflation pressure. So as you say, Prime Minister Takeuchi, who had a minority government, has called an election, achieved a much greater majority. but on the promise that she could take down some of those cost of living pressures. Now, the bond market has said to her, and this is just what's going to be, I mean, it's going to make my day job very, very tricky for the foreseeable. You know, the bond market said, well, you can let them have that bit, but not that bit. So, you know, at the moment in Japan, there's now a discussion about, well, maybe they'll spend more on defence.

28:48Steph:To abolish the consumption tax for two years or something or suspend it for two years. Which, I mean, that would be like suspending VAT. wouldn't it for i mean that's a that's a huge tax giveaway absolutely and and so i think you know

29:03Robert:this is going to be the the tricky thing for governments are going to be constantly thinking about right what's going to please my electorate versus what's going to please the bond market and how do i thread the needle of trying to keep everyone happy and that's not going to be easy it's going to give us lots of bumps in the in the bond market for sure um and and japan is particularly important in the global story and can feed back to us here in the UK because Japan has been the sort of epicenter, the driver of global low interest rates because Japan is a high saving nation. All of that money in Japan has been going out in the world looking for opportunities.

29:46Robert:So suddenly if interest rates start to go up, there are opportunities at home. The worry is that some of that Japanese money will head back home. But then where does that leave the rest of us that's been reliant on that Japanese money? So it means our interest rates are going to go up.

30:00Steph:Exactly. You know, as theirs go up, ours will also go up.

30:03Robert:That's exactly right. They have been anchoring global interest rates at a low level for a very long period of time. And that is a rising tide that will lift all the interest rate boats.

30:14Steph:I mean, the other thing which I find really interesting about Japan, And apart from the fact that it actually has looked for about a year or so that this was an economy that was at last growing a bit faster again after all those years of stagnation. I think it's a really interesting country at the moment from an economic sense. But the other thing that is fascinating is she has just won the biggest majority. So she's won the biggest majority, I think, since the war through this very economic populist policy. And she absolutely highlights the tension that any politician anywhere really in the Western world, but particularly in the UK now faces, is on the one hand, she did take on the bond markets.

31:01Steph:They did panic during the election campaign and we saw, you know, really dramatic falls in bond prices because she's basically saying she's going to have a tax giveaway. But that tax giveaway also gives her this stonking majority. So the politics and the economics are absolutely at loggerheads.

31:19Robert:And the bond market decides who wins. and that's, you know, as I say, for governments everywhere, whether it's here in the UK or political parties, you've got to be very careful what you're offering your electorate and whether the bond market is going to give you the money to deliver or not.

31:39Steph:But she still won her two-thirds majority. That's the point. She's got what she wanted.

31:43Karen Ward:So, like, for example, here then, if you look at, you know, talking about popularism, what reform are doing, you know, they're very much getting the backing of lots of people on the basis they're going to make their lives better. Whether that economically stands up is a question we're all asking. But then they're probably not that bothered. If they get in, they get in. And that's the danger, isn't it? We vote for them on the basis of them telling us they're going to make life better for us. And the economics of our current government haven't stacked up either because no one feels better off. So let them in.

32:15Karen Ward:They get in. Their economics don't stand up. And it all falls apart again. So it's like this vicious cycle, isn't it?

32:22Robert:It is. But I think the bond market plays are really important. And, you know, the bond market is always painted as this. I mean, they use the term bond vigilantes, this kind of evil force, all these nasty men in basements kind of creating all of these problems. But actually, I think that it's a really useful part of the political process of basically saying, don't lie to your electorate about what you can do. So, you know, we're way out of the general election right now. We will learn as we move towards the general election exactly what all of these parties are truly offering and whether they can fund it.

32:57Robert:Because when you're way out from a general election, it's like opposition party time because you just can offer everything, can't you? So we will learn as we move towards the general election exactly what is the priorities, what is being offered, how it's being funded. And the bond market will have their say and will be a guiding force for the electorate. The electorate don't care about the bond market.

33:21Karen Ward:Like they don't, you know, people are not, people, lots of people don't even understand the bond market.

33:24Robert:They do when sterling's falling and suddenly you can't go to Malaga for your summer holiday. There's a way of markets impacting day to day life or, you know, and it enters the political, you know, enters the news flow. So Robert will do a super job of and you will do a super job of telling us exactly what the bond market is telling us as a nation. So I do think the message will be received.

33:52Steph:You know, the bond market is also to a large extent us in the sense that if you're saving for a pension, you know, pension funds have these, you know. And if the price of UK government bonds were to collapse, that would have a direct impact on the value of people's savings. I mean, one of the great, I'm afraid, vulnerabilities of the UK at the moment in terms of the government's ability to borrow is disproportionately, this is unlike Japan, disproportionately, the British government depends a lot on the goodwill of overseas investors. There's a lot of lending, a lot of buying of British gilts from overseas and these more speculative institutions, hedge funds and the like.

34:34Steph:And, you know, it is something I know that is causing, for example, the Bank of England and central banks anxiety is that the way that government bonds are now held creates more volatility. But and it feeds into your point that any prudent government simply has to take those investors seriously because they have over the last 20 years borrowed so much more than they had been in the previous 20 years. And in the end, when you become so indebted, as you say, the interest rate you pay is so important to your ability to do all the other things you want to do as a government.

35:19Robert:Absolutely. As I say, the idea of the bond market, I shouldn't be dictated to by the bond market. Look, we have to remember, we have£3 trillion worth of debt. We're paying in interest per annum almost£100 billion a year. We are beholden to global investors wanting to lend us that money. You know, again, I use the analogy. It's like me saying, well, I want to go to the Maldives this year. I don't care if my mortgage provider says that I can't afford to go. No, I shan't be going to the Maldives this year because I would like to stay in my house. So that's exactly the situation we're in. We are beholden on the bond market.

36:02Robert:And, you know, Robert, the sort of hedge fund, the shift, that actually the hedge funds have just grown in their importance in every single market. You know, we've been I'm sure you've been talking about gold and precious metals and other prices that are doing lots of things. Again, the hedge funds have they what happened after the financial crisis was we took a lot of regulation, took a lot of the market making the big, you know, who dictates where money is going and how quickly money is going. We asked the banks to stop doing that, but therefore there had to be a replacement. And therefore these hedge funds have grown in enormous size.

36:40Robert:And they're now being very influential in every market. It's not that they've decided to pick on us here in the UK in the gilt market. They just now are the market makers in global capital. But that is fast money. And it just means some of the dangers of politicians getting it wrong, I think, are more acute.

36:58Steph:And there was one final point we wanted to talk to you about, and it relates actually back to what you were saying earlier on, particularly with stock markets. We are seeing stock markets at absolutely record levels, despite the incredible global uncertainties. And indeed, we've talked a lot on this podcast about whether there is a significant bubble element, excessive valuation element in all this AI, artificial intelligence investment. What is your current view? Are stock market levels sustainable, certainly for this year?

37:45Robert:Yes, I think stock prices are rational because, as I say, governments are responding everywhere in the world to their electorate by throwing more money at them. And that is what the stock market has cottoned on to. It's the fact that, OK, well, if governments are spending money on defence, on changing their energy systems and then a few checks in the post, that's going to find its way into corporate earnings. That corporate earnings is going to send stock prices higher. Now, we do have to, however, history tells us that printing money to keep things afloat often eventually ends up in tears. Sometimes it takes one year, sometimes it takes five, maybe it takes 10.

38:25Robert:So the way it often ends up in tears is either bubbles. So we have to be very careful of certain areas or it ends up in inflation. So my job at the moment is very much about keeping our clients on the risk train because the checks are coming. but at the same time protecting against inflation risk, protecting against bubble risk. What areas of the markets are looking bubbly? You know, I'm asked the question every day, is tech a bubble? And the honest answer is, and this is not because I haven't done any work on it. All I've done for the past few years is read everything about AI. The answer is we do not know.

39:01Robert:No investor can know because what we know so far is that these tech companies are spending hundreds of billions of dollars creating the capacity to deliver AI. What we don't know is whether there is the demand from consumers and from enterprises to buy the product. And that's the learning stage that we're in. And, you know, I often ask when I speak to audiences, you know, how many have you have chat GPT? And then I ask them, how many of you pay for your chat GPT? And sort of all the hands go down at that stage. So, you know, monetizing. There's massive capex going on. The market's very excited and optimistic that that monetization of the capex will follow.

39:50Robert:But it's going to be a bumpy journey because we are going to learn not only the aggregate sense of whether there's demand for AI, but who's AI? And that's the other sense of volatility we're getting in the market of, oh, it looks like everyone at the moment is now using open AI's technologies. Hang on. Google have just launched with Gemini a really new, interesting. Oh, they're leapfrogging. And then you see Google's share price go up. Now the market's waiting this week for the new ChatGPT platform again. So it's going to create us a lot of volatility. My advice, therefore, to clients is just check your exposure because 40 % of the S &P is tech, which I think has questions and is going to be volatile.

40:39Steph:And as you say, it is a bit like whack-a-mole in the sense that the biggest market shock recently was when Anthropic launched this new clawed, I mean, absolutely, apparently very powerful clawed service, which basically will put out of business all sorts of sort of legal software. and has profound implications for financial services, for consultancy. And what was really interesting when this was launched was it was other kinds of digital companies whose share prices fell incredibly sharply because they were being effectively, you know, apparently made redundant by this particular anthropic AI service.

41:34Steph:So it's not necessarily, the bubble may not necessarily just be in the AI providers. It may be in competitor digital services.

41:43Robert:I mean, as I say, fundamentally here, we have so much to learn about ultimately how it's going to change our world, but who are going to be the winners and losers? That's going to create us a lot of volatility. A lot of it we should probably look through and ignore. There's going to be lots of babies thrown out with the bathwater. All the software companies, I think, are a very good example of that. They're bouncing back in the last couple of days, Robert, because the market, when they heard that news about Anthropics said, well, who's going to pay this company to provide your HR and your compliance services if you can all do it easily in-house.

42:17Robert:And then there's the reminder of, oh, hang on, the data protection and safety of how some of these software companies store it, the service, being able to phone up. It's not just about the code. And so the market had this sort of shock reaction is since digesting and coming back. I mean, we're very excited about the opportunities that provides us as fundamental stock pickers, because you can kind of on those days where everybody's dumping an entire sector go, oh, fabulous. I've been waiting to get that company and now I can get it at a much better price. But boy, it's going to be a ride for sure.

42:52Robert:It's going to create some big old volatility.

42:54Steph:Remember, we had my friend Azim Azhar on the programme. He was a great researcher in this area. Anyway, he sent me a little note he put out internally yesterday because he's now got all sorts of AI agents working for the company. and he sent out a note saying, and by the way, these are effectively the equivalent of employees, but you're not to call them, when we name them, you're going to have to put an R in front of all of them so that we know that they're not real people. Oh, God.

43:23Robert:Well, in our company, though, actually for us, there's no headcount reduction on the back of a massive AI tech spend. It's all about the incremental productivity, taking what we call the no joy work away from people. But there are no headcount implications of that.

43:41Steph:So you're not even growing less fast, as it were. I mean, you may not have sacked people, but you're sure you're not recruiting fewer people.

43:49Robert:No, because we're a people business. And at the end of the day, people want to speak to people fundamentally. Clients want to speak to people. And so, no, I mean, it's fascinating. We've been employing recently these young graduates and so many of them. The fear when they were saying to me, how is AI, you know, the graduate market so awful. How is AI affecting my job that I'm applying for jobs across the business? They're utterly terrified. And I had to say to them, it's going to make your job brilliant because it's just going to be different. Three years ago, you'd have spent all day formatting presentations for me and pulling data.

44:26Robert:You're going to be able to do that super quickly. And you and I are going to write really interesting thought pieces because all that stuff. Yeah. And I can go on podcast.

44:35Karen Ward:is going to free up all this time for the fun stuff. And it's also that point that, you know, has been made, which is you're not necessarily going to be replaced by AI. You're going to be replaced by someone using it. So if you can start using it now in some way, even to just get your head around it in your personal life, that's going to help you professionally as well. I think that's exactly right. Yeah, engage and move with it. That was a public service message from all our listeners. Yeah, yeah. Right, we should probably wrap things up, Karen, as ever. Lovely to have you here, so thank you for popping in.

45:04Steph:Absolutely gripping and insightful as always. Thank you so much.

45:07Karen Ward:Pleasure. Thank you for having me. That's it from us. Bye-bye.

45:09Steph:Goodbye.