Analysis: UK election brings few hopes and few fears to cautious City of London By Reuters

By Sinead Cruise and Huw Jones

LONDON (Reuters) – Britain's financial sector is responding positively to Labour's pro-business proposals and promises to provide stability and support, but many in the City remain fearful they could be targeted to shore up Britain's strained public finances in the future.

Under Keir Starmer's leadership, the Labour Party – which is expected to win Thursday's British election – has assiduously courted the City of London, aware that its plans to boost economic growth will need a large dose of private capital.

At the last election in 2019, Starmer's predecessor Jeremy Corbyn put forward a radical manifesto to increase public investment by raising taxes on corporations and top earners, resulting in Labour's worst result since the 1930s.

“The most important change is that there has been a big shift in mindset from Labour towards the City in recent years,” William Wright, managing director of think tank New Financial, told Reuters.

“This is reflected in a strong sense of continuity in the ongoing reforms in capital markets and pensions,” Wright said.

Labour, whose former Bank of England economist is expected to become Britain's finance minister, has backed the Conservative government's post-Brexit “Edinburgh reforms” aimed at protecting the City's global competitiveness.

The party has also promised an overhaul of the pensions and savings sector, which could help Britain's capital markets as well as boosting people's financial resilience.

But there is also speculation about changes to the way capital gains and wealth are taxed, as well as Reeves' plans to change the way private equity is taxed, which would likely hit hard.

Michael Moore, chief executive of the BVCA, a private equity industry body, said Labour was nevertheless showing a willingness to back up its “pro-business mood with a commitment to substance”.

Reeves had promised to end a “loophole” that allows a portion of private equity profits to be taxed as capital gains, rather than at the higher income tax rate, but last month he told the Financial Times that favourable tax treatment would continue in cases where fund managers put their own capital at risk.

BLOOD AFTER BREXIT AND THE EYEBROW

Many of Britain's top bankers and financiers are taking the prospect of a left-leaning Labour government in stride after the Brexit shock and the impact on the UK government bond market in September 2022 of then-Prime Minister Liz Truss's plans for unfunded tax cuts.

“The sector has had positive and constructive discussions with Labour since 2019. If they win, very few new governments will have come into office better informed about what our ecosystem needs to help act as a dynamo for growth and competitiveness,” said Miles Celic, chief executive of TheCityUK, which represents the UK financial sector globally.

The Labour Party did not respond to a request for comment.

It will be difficult for Labour to repair the damage to investor confidence and the flight of financial services activities to the EU caused by Brexit (arguably the most lasting legacy of the Conservative Party's 14 years in power).

France's central bank said last year that transactions between financial services firms based in France and the rest of the world would reach a record 10.4 billion euros in 2022, double the volume seen at the time of the Brexit vote in 2016.

According to figures published by CityUK in January, the UK had a 16% share of cross-border bank lending in 2016, but this fell to 14% by the end of the second quarter of 2023.

Meanwhile, Amsterdam has overtaken London to become Europe's top share trading venue since trading in euro-denominated shares by EU investors had to stop in Britain on December 31, 2020.

SEEKING CERTAINTY AND STABILITY

Starmer has repeatedly made clear that rejoining the single market, essential for the City to regain direct access to the EU, is a red line he will not cross.

Many market participants simply want to see the financial sector reforms already agreed under the Labour government properly implemented, to protect the industry's huge contribution to state coffers.

A PwC study for the City of London Corporation and TheCityUK published in May estimated that the total tax contribution of the financial and related professional services industry was £110.2 billion ($140 billion) in 2023.

This equates to 12.3% of the UK's total tax revenue, more than the UK government's education budget, or more than half of its health budget.

The impending changes to Britain's rules on stock market listings have been designed to attract more high-value initial public offerings, potentially including China-founded fast-fashion retailer Shein, and other similar deals that bring big profits for those involved.

The Financial Conduct Authority is set to publish an update to its listings after the election, which could trigger a flurry of corporate activity from the end of July.

The British economy emerged from recession at a faster pace than expected in the first three months of this year, but the broader economic backdrop remains fragile.

UK public debt is high, almost equal to GDP, with tepid growth prospects, leading analysts to conclude that taxes will inevitably rise to prop up healthcare and other services, making the financial sector a potential target.

“It's actually quite simple: companies want certainty,” said Naresh Aggarwal, associate director of policy and technical expertise at the Association of Corporate Treasurers.

M&G Investments said in a note to clients that a Labour election was unlikely to fundamentally alter the direction of the UK stock market, where valuations are depressed compared with Wall Street.

But New Financial's Wright warned that Labour could be more radical in government than it has been in opposition, a view shared by Samuel Gregg of the American Institute for Economic Research.

“The City should recognise that Labour is a more left-wing party today than it was during Tony Blair's heyday,” said Gregg, referring to the New Labour stronghold of the early 2000s.

“That can only make life more uncertain for the City under a large majority Labour government.”

($1 = 0.7844 pounds)