For markets, 2024 is all about prices, not votes

Written by Damian Reece.

This year’s global vote-fest is not what’s obsessing markets. Instead, investors are focused on inflation and the role of central banks in setting interest rates.

What would spook markets is if any incoming government signalled it intended to erode central bank independence. The power to set interest rates, exert control over inflation and attain price stability is central to western-style, free-ish market economies and any reversal of that separation between politicians and central bankers would cause significant dislocation in capital markets.

Of course, all central bankers are ultimately political appointees but a country’s financial credibility (a critical asset for all politicians) comes down, in part, to its central bank’s credibility.

Donald Trump, when President, came to blows with Fed Chair Jay Powell over interest rates (which Trump inevitably thought were too high) but Powell stood firm, to the relief of markets. Inflation is now close to being tamed in the US.

This time round, Trump has already started with the political pressure, announcing he will replace Powell should he win the November election, signalling to any Powell replacement what a Trump White House wants.

Global markets are sanguine about potential friction between the White House and the Federal Reserve, however. They’ve seen it all before and, given rates are expected to fall three times in 2024, Trump will get what he wants anyway, allowing him to burnish his iconoclastic image during the campaign without causing any lasting damage.

Of Europe’s central banks, Turkey’s is the constant basket case. Having won plaudits by appointing the reforming Hafize Gay Erkan (who increased rates from 8.5% to 45%) she quit recently over a smear campaign. Whether President Erdogan is behind the briefings is unknown, but markets seem to be giving him the benefit of the doubt and continue to believe in his recent conversion to tight monetary policy to tame inflation.

As far as this year’s election jamboree is concerned. stock markets in the world’s most important financial centres, New York, London and Singapore are not expecting any ballot box surprises. A moderate Labour government in the UK holds no fears for the City of London, which has fond memories of 1997-2007, a fantastic decade-long party helpfully paid for by the taxpayer in 2008.

Wall Street will be hoping that if Donald Trump returns to the White House so too will the 13.73% annual returns from the S&P 500 which they enjoyed under his last tenure – as will the 75m+ Americans likely to vote for him. Joe Biden has enjoyed a 23% profit (and not the crash confidently predicted by Trump during the 2020 campaign) during his first three years which isn’t bad when you consider the market fell 19% in his second year (2022).

If the feared rise in populism transpires in the European Parliament elections it will not spark a bear market in Frankfurt or Paris – more an expectation that liberal elites will be forced to take note and adjust their own policies accordingly.

In Southeast Asia, Taiwan has already gone to the polls and re-elected the pro-independence Democratic Progressive Party ‘s Lai Ching-te as its next president amid simmering Sino-US tensions – which continue to simmer as before, and the world’s largest democracy will surprise no one when it re-elects Narendra Modi’s BJP to power in India.

Stock markets have never been in any doubt which way Russia would vote (again).

Of far more consequence to politicians will be the reaction of international debt markets where investors can make or break political careers (just ask Liz Truss and Kwasi Kwarteng). Debt market investors bankroll political spending plans by lending governments the money they can’t, or won’t, raise through tax. Through government debt (bonds, or gilts in the UK) politicians mortgage their country’s future.

The fact is that governments cannot function without the cooperation of debt markets. The amount countries such as the UK have borrowed to pay for COVID-19 measures and cost of living relief since 2020 (not to mention bailing out the banks in 2008) means debt markets have politicians over a barrel.

Sir Keir Starmer can’t increase spending any more than Rishi Sunak can. Any manifesto “promises” that even hint at fiscal incontinence will receive an immediate and clear vote of no confidence from the debt markets in the form of falling bond prices and rising yields, which increase the cost of future borrowing.

Allied to the bond markets are the foreign exchange (FX) markets which will also signal a loss of confidence in a country’s political leadership by selling a currency, driving it lower and creating yet another inflation headache as vital imports become more expensive.

Few things can crush political credibility more swiftly than a vote of no confidence in the debt and FX markets.

So as the world goes to the polls, equity markets are focused on falling interest rates, soft landings for economies and the return of growth – not who wins the next election. Debt markets are also feeling confident that inflation is largely being brought under control and are rewarding incumbent governments with lower yields.

But, if any successful candidates show anything other than iron discipline when it comes to their countries’ finances, it will be the debt markets that will cry foul and force the first painful U-turns of the brave new world post 2024.