Recent news reports suggest Tony Blair will soon step aside. If the bookmakers are to be believed, Chancellor Gordon Brown is likely to replace him.
The Chancellor's hands-on approach to economic management is obvious to all. It raises an obvious question. How have UK investors fared during his time at the helm?
It is a tough issue to evaluate. We can not simply compare the UK's stock market performance since May 1997 with a comparable period (the previous nine years and four months) when the Tories ruled the roost.
The reason is that worldwide stock market conditions changed in recent years. Recall that shares in most western economies soared during the 1990s, aided by one of the strongest bull markets of all time. But a painful bear market slammed investors in many countries from 2000 to the beginning of 2003.
Viewed from this perspective, it would not be fair to claim the FTSE-All Shares index rose 146 per cent during the final Tory years versus just 40 per cent since Labour gained power.
But it is possible to compensate for changing economic conditions by making relative comparisons. Match up UK stock market profits since May 1997 with the performance of other countries. Do a similar comparison during the final nine years and four months of Tory leadership.
Looking at the data in this manner uncovers some striking differences.
In the nine-plus years running up to May 1997, the FTSE-All Shares index rose 146 per cent versus a world-wide gain of 133 per cent. In other words we out-performed the rest of the world by 13 percentage points.
But the tables were turned after May 1997. The world's stock markets gained 47 per cent versus a UK gain of just 40 per cent, an under-performance of seven percentage points.
Reviewing the historical record from this perspective leads to an inescapable conclusion. Stock market returns have weakened during Labour's time in office. The Tories were associated with an over-performance of 1.4 per cent per year. Labour triggered an under-performance of 0.8 per cent per year. The gap between the two may not seem very meaningful. But looks are deceiving.
History teaches the UK stock market rises by three per cent per year over the long run. This means that the typical start-up investment of £10,000 would grow to £13,400 in 10 years, excluding dividends and taxes. If we adjust this figure down a bit to reflect Labour's influence, the portfolio would be worth £12,500. Under the Tories, it would be worth £15,400.
A 20-year investment would produce even bigger differences: £15,600 (Labour) versus £23,700 (Tories).
We live in a complex society. It is rare for a single factor to account for significant differences in long-term stock market trends. Labour's 1997 election victory appears to be one of those rare exceptions. Several different factors led to this disappointing performance.
Increases in cost of doing business:
National and local taxes have risen sharply since Labour came to power. British industry also complains about an ever-growing number of regulations in recent years. These government policies are a hidden tax on British industry because they raise the cost of doing business.
High taxes contribute to weak stock market returns for one simple reason. Higher-taxed companies produce lower after-tax profits. The price investors will pay for a share is linked to corporate profitability. Lower profits lead to lower share prices.
Taxation of Dividends:
One of the first investment-related decisions of the new labour government was to eliminate the dividend tax credit. Those supporting this action probably viewed it as a politically safe action because it affected corporations who fund pension programmes, not the general public. The result of this decision was that pension funds began to pay taxes on dividend income.
Unfortunately, the tax had a number of unintended serious consequences. One directly affected investors by reducing the amount of money in the pension pool. As every entry-level economics student knows, prices of most goods and services are influenced by the amount of money chasing them. The stock market is not immune to this basic economic principle. Less money to invest leads to weaker buying pressure and lower prices.
Final Salary Pension Scheme Closures:
The dividend tax also contributed to a major change in the way British industry provides pensions to its workers. The government assumed companies providing defined benefit pension programmes would compensate for the tax by contributing more money to meet future obligations. It was a serious miscalculation.
The powerful bull market that ran to the end of 1999 initially hid the effect of this error. Many companies were taking pension contribution holidays because of the rapid growth in share prices.
But the pendulum has been swinging in the opposite direction ever since. A combination of falling share prices in 2000 to 2003 and rising pension contributions encouraged many British companies to terminate their defined benefit pension programmes. The number of retirees facing reduced resources in their final years has been growing ever since.
These pension programme closures created an additional problem for equity investors. Due to UK actuarial requirements, pension scheme closures force pension funds to change their asset allocation practices. Companies were required to shift part of their pension portfolios from shares to bonds, further reducing the amount of money available for stock market investment.
No single decision can take the full blame for the recent relative weakness of the UK stock market. Even so, the pain inflicted on British investors since 1997 is plain to see.
Different experts can come up with differing views on the Chancellor's overall performance. But as far as the stock market is concerned, there is no debate. Investors have been worse off since he took office
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