Is the UK economy ripe for an investment boom?

Foreign investment should be top priority for a new government that must show it has a timetable for growth

Attracting foreign investment should be high on the new government's list of priorities, analysts say. PA

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Much of the election campaign trail for Britain's shadow chancellor, Rachel Reeves, has led her to the financial centre of the UK, the City of London, to glean support and advice from the bankers and asset managers who populate the Square Mile.

Consulting with senior figures at the likes of HSBC and BlackRock, Ms Reeves is primed to unwrap and set in motion policies to encourage investment in the UK should the party win the general election on July 4.

“I am determined that a Labour government will hit the ground running to show that Britain is open for business and to begin to attract the investment we need to make working people better off,” she said.

Manifestos have made promises on how British business will be helped to make the country more attractive for foreign direct investment (FDI), such as an extra £2 billion ($2.54 billion) of funding in research and development from the Conservatives and the vague notions of starting economic growth from Labour.

With Labour's new cosy relationship with the business community and certain financiers in the City of London as a backdrop, Ms Reeves said if elected, a Labour government would hold an investment summit in the first 100 days of its administration.

That would mean by the middle of October, a much-predicted Labour government would have set out its case for investing in Britain and how it intends to boost it.

Timing is all

The National Institute for Economic and Social Research (Niesr) has called on the next government to make the UK more attractive to foreign investors by setting up a fixed framework to deliver a high degree of fiscal stability.

Introduction of a “fiscal diary” would mean international investors would be far more likely to commit money, secure in the knowledge that political horse-trading would not increase the risk to their investments.

“Of late, there's been a lot of uncertainty and there's been a lot of policy churn,” said Dr Benjamin Caswell, senior economist at the Niesr.

“So, we think that having a fixed schedule for fiscal events, in the same way that the Monetary Policy Committee of the Bank of England has its meetings scheduled well in advance, would be helpful for boosting confidence and providing a clear path forward for international markets and investors with regards to the UK's fiscal direction.

“This is something that the Treasury could be empowered to do relatively easily, and would provide welcome certainty and policy stability given the experience of the last few years.”

Tax breaks

Others feel that while stability, clarity and fiscal certainty are important, a sure-fire way of attracting foreign investment is to use tax breaks as incentives.

“There’s competition for foreign investment across the world,” Prof Abhinay Muthoo, a fellow at Niesr, told The National.

“So we need to do some policy work and make [the UK] attractive. We have a strong rule of law in this country, which is unparalleled across much of the world.

“What’s missing is things like tax breaks. I don’t see any tax incentives to compete with Europe and the Brics countries to bring in investments.

“The next government should be thinking about providing incentives for foreign investment – that would be a great way to get money in.”

Nice idea said Russ Mould, investment director at AJ Bell, but given the tax burden that the average British voter is now saddled with, any aspiring chancellor is unlikely to shout about tax holidays for foreigners from the top of a campaign bus.

“Overseas control of UK assets is a political hot-button topic, and even the Conservatives, a nominally pro-free-market party, introduced the National Security and Investment Act in 2021 to keep outsiders out, at least in certain industries,” Mr Mould told The National.

“And the idea of tax breaks for overseas investors when the tax burden feels like it is going up here would be a hard thing to sell.”

A poll by Stack Data Strategy last year showed a slim majority of the British public are supportive of investment flowing into UK firms, with 51 per cent agreeing that if a British company needed to expand, stay competitive or even survive, FDI should be prioritised, as long as it saves jobs.

But if Labour were to emerge victorious in the election, it would be of little use to look at the last Labour government to glean any hints as to the future of FDI in the UK, because the playing field has changed so much over the past 27 years.

When Tony Blair and so-called New Labour took power in 1997, the UK economy was larger than China and India put together, the internet was in its infancy, while foreign investment and globalisation were run towards with open arms.

Fast-forward 27 years, past several wars, a global financial crisis, a worldwide pandemic and shifts in the geopolitical power hierarchy, and the outlook of a new generation of Labour leaders differs somewhat.

Ms Reeves talks of “securonomics”, an economic stance that seeks to combine market economics with security through a combination of diverse and secure supply chains and the development of domestic capacity in sectors that are over-reliant on foreign input.

Unlike Tony Blair's Britain of 1997, where the economy was an open party to all who wanted to invest, any new Labour government would have (like the current Conservative one) the National Security and Investment Act as the bouncer on the door.

Increased foreign investment would be a boon to the government that steps into power after the election on July 4, while the headroom to squeeze more out of already battered UK household incomes is extremely limited.

The latest figures show that UK economic growth flatlined in April, having risen 0.4 per cent in March.

But while the decline has not sounded alarm bells that the nascent recovery is over, it does illustrate that the “UK remains fragile on its route to a sustained economic recovery”, said Hailey Low, associate economist with the Niesr.

Nonetheless, inflation in the UK is now back down to the Bank of England's target of 2 per cent, and while it is expected to rise slightly before the end of the year, analysts say there should be scope for an interest rate cut at some point in the summer or autumn.

“There will be concerns that services inflation has only retreated slightly, so although August remains a possibility for a rate cut, September is looking more likely – and the markets are only fully pricing in a rate cut in the autumn,” said Susannah Streeter, head of money and markets at Hargreaves Lansdown.

Party manifestos

Labour leader Keir Starmer has talked recently of “tough new spending rules” and the stance is repeated in the party's manifesto for the general election.

Both Conservative and Labour manifestos have pledges not to raise corporation tax, income tax and VAT.

Meanwhile, the Conservative party manifesto promised £17 billion of annual tax cuts, and a major rise in defence spending.

But neither party's manifesto mentioned any concrete measures for attracting more foreign investment.

“Investment is what’s key to getting UK Plc moving, and there’s no money inside the country, so we need to get money from outside the country,” said Prof Muthoo.

“Foreign investment could be the way to do it – at least a kick-start.”

Investment is crucial to increasing productivity, agreed Paul Dales, chief UK economist at Capital Economics.

“To boost investment, you need more saving,” he told The National.

“Inducing or forcing businesses and households to save more, perhaps by raising compulsory pension contributions, would be useful.

“You can raise investment without raising savings by boosting the current account deficit (ie. borrowing from abroad).

“But that is a short-term fix. You’re better off focusing on policies that boost domestic savings, which would then boost investment.”

But simple, straight talking from a new government would at least clear the fog when it comes investing in the UK economy, many analysts said.

Such clarity would enable foreign investors to make long-term investment decisions about the UK economy, without having to be encumbered by political risk.

“The UK is brilliant at many things – financial services, creative arts, technology, science and biotechnology – and it needs to ensure they are given room to flourish and believe in themselves,” Mr Mould said.

“Constant political tinkering does no one any good as no one ever knows where they stand when it comes to investment.

“Zero interest rates have done no one any favours either – no one believes the cost of money is zero, but no one knows what a sensible rate of return is in such a false environment.

“Less tinkering and [a] fair picture of what is the real cost of money would both help to create a more stable backdrop and enable firms to plan for the long term.”

Business groups agree that while stability is paramount, Britain's perceived productivity problem can be at least partly addressed by technological advances, especially artificial intelligence.

“Top of the in-tray for the next government should be a cutting-edge trade and investment strategy, a net-zero investment plan and more support for firms to invest in automation and AI,” said Ben Jones, lead economist at the Confederation of British Industry.

Many economists feel that the investment attractiveness of the UK economy, and its related growth prospects, will be more a function of the spread of tech such as AI, rather than any specific fiscal tweaking a new government might offer.

“Our forecast that the UK’s economic growth rate will accelerate in the 2030s is based on the benefits from AI rather than government reforms,” said Mr Dales.

“If that improvement happens sooner, the winner of the election may be lucky enough to benefit from an easing of the fiscal constraints.”

Tax breaks

According to the latest Office for National Statistics (ONS) data, UK foreign direct investment increased year-on-year for a decade to stand at more than £2 trillion by 2021.

Despite the increasing sluggishness of the UK economy, foreign investment has continued to find a home in Britain.

According to the recent UK Attractiveness Survey by the consultants EY, the UK’s share of all European FDI projects grew to 17.3 per cent in 2023, an increase on the 15.6 per cent in 2022.

“However, the UK’s broader FDI trend mirrors Europe’s by recording a lower level of projects in the last four years in comparison to pre-pandemic levels,” the survey said.

“UK project numbers have remained below 1,000 since 2019 and there were 220 fewer projects recorded in 2023 than at the UK’s high point of the decade in 2017, when 1,205 projects were recorded.”

Any project looking to attract foreign investment needs planning, an area of doing business that many experts say is the Achilles' heel of much of Britain's attractiveness as an FDI destination.

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While Labour has promised to make “major projects faster and cheaper by slashing red tape”, Stuart Cole, chief macro economist at Equiti Capital, told The National that without major reform of the planning system, overseas investors would “rather go elsewhere”.

“And given the crowded nature of the UK as it is, making it easier for companies to build new factories is probably not something that will go down well with local communities, potentially costing any government votes.”

Britain's thriving tech and life sciences sectors, as well as a strong legal system and the financial agility and power of the City, put the UK in an attractive position for FDI, as long as political hiccups like the ill-fated Liz Truss and Kwasi Kwarteng mini-budget of late 2022 don't rattle the markets.

“One of the reasons why the bond markets turned illiquid in 2022 with the [mini-budget] was because Liz Truss and Kwasi Kwarteng circumvented the Office for Budgetary Responsibility,” said Dr Caswell.

“So, if you make proposals for increased public investment, and they are sound and proportionate and you can explain to the market how you get there, then there’s not an issue of suddenly markets being spooked.”