The country has a market-friendly prime minister but deep wounds in the ruling party, an opposition Labour party steaming ahead in the polls and difficult economic issues to address highlight challenging times ahead.
A third prime minister this year enters Downing Street, and the country has avoided the inevitable chaos tied to Boris Johnson returning, or another round of fractious Conservative party voting caused by a third contender, Penny Mordaunt, who also backed down.
Rishi Sunak, the wealthy, early 40s, economist and former chancellor (finance minister), replaces Liz Truss, who had seen him off in the original vote by party members, but whose tenure, characterized by intense market turmoil, lasted just 44 days before her resignation.
The question now is whether it has fully mitigated the spike in risk.
The UK’s standing deteriorated further in Euromoney’s latest quarterly country risk survey. The risk score was downgraded more than any G10 or EU member state, causing the UK to fall four places in Euromoney’s global risk rankings of 174 countries to 43rd, below France.
All of the UK’s economic risk factors were downgraded, as well as the full range of political indicators – notably government stability.
Among the survey contributors who mentioned specifics, Norbert Gaillard of NG Consulting says he downgraded the economic GNP outlook, government finance, debt indicators and access to capital markets factors.
He does not anticipate any further downgrading and says it is reassuring that the Conservative party has found a new leader quickly.
This suggests the party may reach a consensus on key issues, with Sunak embodying a return to traditional Conservative economic values.
Bruce Morley, a lecturer at the University of Bath, seems to agree. As Rishi Sunak won the Conservative party leadership election without a vote by the party members, he says this should mean a short period of calm.
Morley does not foresee an early election, which the Conservatives would almost certainly lose. The party in any event has until the end of its five-year term in January 2025 and, assuming it remains cohesive in the national interest, it has a large majority to resist any votes of no-confidence.
That is true even if the partial local council elections in Northern Ireland and predominantly English shires next May prove to be a disaster.
Gaillard also notes the fact that the financial markets have reacted positively so far. The pound is strengthening again, not least due to Sunak reappointing chancellor Jeremy Hunt, who reversed his predecessor’s unfinanced tax cuts and spending plans to inject a degree of probity into fiscal decision-making.
His other cabinet appointments – some reappointed – hint at stability and of trying to forge party consensus.
Yet a clear fiscal and tax “roadmap” is still required to draw firm conclusions, Gaillard says.
Morley concurs, pointing out the underlying problems with the economy remain, especially high inflation.
The annual rate of inflation, which rose to 10.1% in September, is forecast to increase further, highlighting the cost of living in the UK amid high borrowing costs, notes Stephanos Chaillou, senior analyst for Europe at A2 Global Risk.
While real GDP is projected to increase by 3.6% in 2022, it is expected to stagnate next year, he adds. With interest rates being raised on September 22, to 2.25%, and further rises expected, businesses and individuals will reduce spending, while for many companies, economic conditions will delay new investments.
Chaillou believes that the financial markets are reacting positively to Sunak’s victory as he is expected to prioritize tackling inflation without compromising fiscal prudence.
In practice, Sunak will pursue a significantly different economic vision than the one advocated by Truss- Stephanos Chaillou
“In practice, Sunak will pursue a significantly different economic vision than the one advocated by Truss," says Chaillou, "particularly as the new PM will probably pursue a combination of tax rises, public spending cuts and targeted relief for vulnerable households."
Yet there are clearly enduring divisions within the Conservative party, combined with a fragile economic context, which means that the political crisis in the UK is unlikely to end anytime soon, he adds cautiously.
“Indeed, it is worth remembering that Sunak lost the party leadership contest because he does not enjoy broad popularity among Conservative party members, while Boris Johnson will continue to enjoy a high level of influence among MPs that supported his own bid.”
Fundamentally, Liz Truss’s short term as PM illustrated that at present there is little discipline, policy alignment or uniformity in the Conservative party, he adds.
The immediate resignation of Brexiteer, Johnson ally and Sunak-critic, Jacob Rees-Mogg as business secretary underlines these divisions, which may become more evident if Sunak does not govern for all.
The 2019 election manifesto will, meanwhile, constrain Sunak’s policy agenda, says Chaillou, while the need for a popular mandate to silence critics and political pressure from opposition parties make the prospect of an early election very likely in his opinion.
Yet the Conservatives are currently struggling in the opinion polls. The political crisis has seen the gap widen to more than 30% in some of the latest readings, with Labour on course for a sweeping majority on more than 50% of the vote.
There have been no material gains for the Liberal Democrats, the Greens or any other minority parties that will struggle for parliamentary seats in the UK’s first-past-the-post electoral system.
With the current timing unfavourable for the Conservatives to stage an election, Sunak will need to restore credibility by projecting an image that a new Conservative party cabinet can govern in a sensible, disciplined and competent manner, says Chaillou.
This would help narrow the gap with the Labour party in the opinion polls, and under such a scenario it would be reasonable to envisage an early election taking place in the second or third quarter of 2023, he believes.
The government’s problems are clearly mounting, notably given the rising cost of food (amid other goods and services), plus an energy crisis that could lead to electricity outages in the winter.
Morley suspects the probability of blackouts is low for this winter – climate change may lead to the mild autumn weather continuing – but a cold snap and the war in Ukraine continuing, and potentially worsening, are clearly risks.
“Russia is likely to use attacks on the energy sector as a key part of its overall strategy,” he warns.
Chaillou notes the fact that Norway has spotted a growing number of drones flying over offshore energy extraction facilities. This has prompted the government to expand maritime patrols.
Similar steps will likely be taken in the UK, he says, particularly as North Sea energy deposits have emerged as a key alternative to fossil fuels imported from Russia.
Russia is likely to use attacks on the energy sector as a key part of its overall strategy- Bruce Morley
“While the risk of sabotage and other hostile action against offshore energy infrastructure is low, it nevertheless should be seriously considered by policymakers after the Nord Stream pipeline blasts,” says Chaillou.
Gaillard concurs, noting that geopolitical risks have increased dramatically since the invasion of Ukraine.
First, the tensions between Russia and the UK have escalated and could lead to serious threats to British critical infrastructures,” he warns. The recent sabotage of the Nord Stream pipelines supports this view, he says.
“Second, whatever the energy plan presented by the Sunak government, it may fall short of preventing electricity blackouts this winter. This scenario could exacerbate social tensions and undermine political credibility.”
On top of all that, there are other risks for investors to contemplate.
The controversial reappointment of hardliner Suella Braverman as home secretary highlights that a divisive immigration policy of transporting asylum seekers to Rwanda (contravening the UN Convention) will continue, in order to meet the expectations of the party’s right wing.
Just as concerning is the unresolved conflict surrounding the poorly drafted Northern Ireland protocol, which was part of the post-Brexit deal with the EU, and which affects the ability of Northern Irish businesses to trade freely with the rest of the UK.
A bill put forward by the Johnson administration that unilaterally overrides parts of the protocol was passed in the House of Commons and is presently before the House of Lords, an advisory upper chamber with few powers.
The issue feeds directly into an incendiary debate in Irish politics as well as Eurosceptic factions within the Conservative party. There is the risk it could lead to the imposition of trade barriers by the EU, despite the ongoing dialogue and Sunak’s desire for a pragmatic solution.
Then there is the prospect of Labour returning to power with the government finances stretched; and for UK investors, that makes it a very uncertain time.