Debt Traps, Interest Rates and Global Shifts: A Candid UK Outlook with Gerard Lyons

Summary

Merryn Talks Money Podcast Summary

Episode: Debt Traps, Interest Rates and Global Shifts: A Candid UK Outlook with Gerard Lyons
Host: John Stepek (standing in for Merryn Somerset Webb, Bloomberg)
Guest: Dr. Gerard Lyons, Chief Economist at Netwealth
Date: December 10, 2025
Location: Edelman Smithfield Investor Summit, London Stock Exchange

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Episode Overview

In this episode, John Stepek interviews Dr. Gerard Lyons, one of Britain’s most prominent economists, about the UK’s recent budget, the country’s economic outlook, inflation risks, monetary policy, and the broader global investment climate for 2026. The discussion traverses domestic fiscal challenges, criticisms of recent policy decisions, the outlook for central banking, the global disinflationary wave, and where investors should look for opportunity and resilience.

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Key Discussion Points & Insights

1. The UK Budget: “Bad, Bad, Bad” (03:01 – 07:57)

• Lack of Economic Vision: Dr. Lyons criticizes the recent budget for lacking both economic vision and meaningful fiscal consolidation, stating politics—not sound economics—dominated decision-making.

  “The disappointing thing is there was no economic vision there. The public finances were given some temporary reprieve. But the underlying picture is... I thought it was bad for the economy, I thought it was bad for incentives, and also... it was bad for the public finances.” – Dr. Gerard Lyons [03:14]

• Structural Weaknesses: Stagnation in productivity, growth, and wages persists, while government spending, taxation, and borrowing all trend higher.

  • Public spending has increased more than budget targets for every budget since 1990 (54/54), regardless of the party in power.
  • The UK may be heading into a “debt trap” by decade’s end—when debt exceeds 100% of GDP and growth is below the cost of debt.

• Market Reaction: Despite underlying weaknesses, markets reacted calmly due to:

  1. The fiscal deficit (“black hole”) was less dire than feared.
  2. Fiscal “headroom” was rebuilt (£21.7bn buffer).
  3. Short- and medium-term gilt issuance met market expectations.
  4. Continued anticipation of Bank of England rate cuts.

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2. The Politics and Credibility of Fiscal Policy (07:57 – 10:47)

• Distrust in Fiscal Targeting: UK fiscal rules based on multi-year projections are inherently unreliable—forecast errors are large and rules often self-imposed.

  “We're all sitting here talking about the budget and all these numbers refer to fiscal rules that are self-imposed... The margin of error... is equally high.” – Dr. Gerard Lyons [05:07]

• Market Psychology: Markets are “expectations-managed” more than fundamentally reassured; misleading pre-budget rumors and lack of communication discipline dented business confidence pre-budget.

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3. Interest Rates, the Bank of England, and Disinflation (10:47 – 17:42)

• Interest Rate Outlook: Lyons expects UK interest rates to fall to 3.5% by spring and possibly 3% by end of 2026.

  “I think interest rates will undershoot what I think would be their norm next year.” – Dr. Gerard Lyons [13:39]

• Bank of England’s Failings: He’s notably critical of the Bank’s policy:

  • Quantitative Easing (QE): Only justified after the financial crisis (“the good”), unnecessary in later years (“the unnecessary”), and damaging post-pandemic (“the bad”).
  • Quantitative Tightening (QT): The bank’s technical approach to unwinding QE is questioned.
  • Reserve Remuneration: Payment of base rate on full commercial bank reserves is expensive and not essential for policy.

  “The Governor said QE was an unbridled success, which is complete nonsense... QE after the global pandemic was wrong compared to the QE after the global financial crisis.” – Dr. Gerard Lyons [15:34]

• China’s “Involution” and Deflationary Pressure:

  • Hyper-competitiveness in Chinese sectors drives lower prices globally.
  • Expect a wave of deflationary (or at minimum disinflationary) pressure from Chinese exports, especially in autos, helping keep UK/European inflation down.

  “I think there will be a swathe of Chinese exports coming to Western Europe. It will really compromise... the European auto industry. But in the UK we will see a real positive impact from this in disinflationary effect.” – Dr. Gerard Lyons [12:46]

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4. Central Bank Independence and Accountability (20:30 – 24:26)

• Questioning Independence: Lyons endorses independence but calls for stronger accountability and scrutiny:

  “Any criticism of the bank is regarded as an attack on its independence... when what it really is is a challenge to its competence and its credibility.” – Dr. Gerard Lyons [21:35]

• Focus on Medium-Term Policy: The OBR (Office for Budget Responsibility) should look beyond short-term “headroom” and focus on medium-term debt/GDP outlook (OBR projects UK debt headed to 270% of GDP in the long term).

  “UK’s medium-term fiscal numbers suggest debt is heading to 270% of GDP... you then focus on the thing you have to get under control, which is public spending.” – Dr. Gerard Lyons [23:25]

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5. UK Economic and Market Outlook (24:26 – 34:44)

• Corporate Sentiment: Companies are generally upbeat about their own balance sheets, a potentially positive leading indicator.

• Growth Forecasts: OBR expects 1.5% GDP growth in 2026, consensus closer to 1% (modest but not catastrophic; households still have high savings ratios).

• Investment Strategies:

  • Stay globally diversified; be wary of illiquidity.
  • Be alert to private markets and crypto—volatility is high.
  • Focus on why you hold each asset.

  “I would still be as invested as possible, I would be diversified and I would be very global in one's outlook.” – Dr. Gerard Lyons [27:11]

• Global Regions to Watch:

  • Indo-Pacific/East Asia: Especially India and China, with strong growth and innovation.
  • AI Sector: US and China are in a “league of their own,” with the UK trailing far behind.

  “It's not a case of just picking one country or one region. You need to differentiate between those factors.” – Dr. Gerard Lyons [32:11]

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6. The Big Structural Risks (32:17 – 34:57)

• Fragmentation Over Globalization:

  • Trade disruptions, home-country bias, US policy unpredictability, and geopolitics all raise risk.
  • Lyons doesn’t see an imminent tech crash, but warns valuation risks aren’t fully priced; the true test may come as the interest rate easing cycle ends.

• Debt Trap Danger:

  • Debt challenges are not unique to the UK—“six of the G7” could face crisis later this decade.
  • The risk of a sudden, disorderly “crowded trade” exit if markets lose faith in government debt sustainability.

  “Crowded trades are a dangerous thing for any investor... when people run for the exits, they don't do it in an orderly, predictable way.” – Dr. Gerard Lyons [36:05]

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7. UK Policy Positives: A Christmas Stocking (37:26 – 41:53)

• Reasons for Optimism

  • High savings ratio, stable corporate balance sheets.
  • Post-Brexit autonomy in AI, financial regulation, and trade deals.
  • The banking sector fared well in the budget.
  • Potential for renewed housing turnover if taxes don’t rise further and interest rates fall.

  “Being outside the single market allows the UK to have regulatory autonomy in the area of AI, which is the big growth area of the future.” – Dr. Gerard Lyons [37:39]

• Hidden Risks & Complexity:

  • “Manhattan skyline” tax system with punitive, inconsistent marginal rates, especially for young people and student borrowers.

  “We have high marginal tax rates and the way it used to be described in the treasury was, Manhattan skyline.” – Dr. Gerard Lyons [40:02]

  • The UK must do much more for the younger generation—lower taxes, facilitate housing mobility, and encourage home ownership.

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Notable Quotes & Memorable Moments

• On Deflation from China:

  “I think there will be a swathe of Chinese exports coming to Western Europe... But in the UK we will see a real positive impact from this in disinflationary effect.” – Dr. Gerard Lyons [12:46]

• On Debt and Fiscal Illusion:

  “Britain is heading for a debt trap... A debt trap is when your level of debt is above 100% of GDP and when your rate of economic growth is less than the rate of interest you're paying on your debt...” – Dr. Gerard Lyons [06:09]

• On Central Bank Independence:

  “Any criticism of the bank is regarded as an attack on its independence or integrity, when what it really is is a challenge to its competence and its credibility.” – Dr. Gerard Lyons [21:35]

• On Private Investors & Crowded Trades:

  “Crowded trades are a dangerous thing for any investor... when people run for the exits, they don't do it in an orderly, predictable way.” – Dr. Gerard Lyons [36:05]

• On Student Loan Policy:

  “If you'd studied history at university, you could probably cram all your history lessons into one month and you could be repaying a student loan for 40 years on your one month of studies.” – Dr. Gerard Lyons [40:34]

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Timestamps for Important Segments

• Introduction & Guest Welcome: 01:46
• Budget Critique: 03:01 – 07:57
• Market Reactions & Fiscal Headroom: 07:57 – 10:47
• Interest Rates and Bank of England Criticism: 10:47 – 17:42
• Central Bank Independence: 20:30 – 24:26
• UK Market and Investment Outlook: 24:26 – 34:44
• Structural Global Shifts and Risks: 32:17 – 34:57
• Bright Spots and Youth Policy Challenges: 37:26 – 41:53

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Summary Tone and Takeaways

The conversation is candid, technical, and at times blunt—with Dr. Lyons pulling no punches on policy failures, but also striving to end on a constructive note. Both John Stepek and Dr. Lyons blend concern over structural debt traps and policy credibility with clear advice: remain diversified, keep an eye on liquidity, focus on growth regions (Asia/AI), and watch for subtler shifts in global disinflation and debt. The UK, while challenging, still has potential—especially if upcoming governments choose reform over political short-termism.

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For investors, policymakers, and thoughtful savers alike, the episode delivers an unsparing yet ultimately practical look at how to navigate the year ahead.

Transcript

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[John Stepek]

Welcome to MELM Talks Money, the podcast in which people who know the markets explain the markets. I'm John Stevig, senior reporter for Bloomberg and author of the Money Distilled newsletter. Today I'll be covering for Merrin in this special episode of the show, recorded live from the Edelman Smithfield Investor Summit at the London Stock Exchange. With me is Dr. Gerard Lyons, one of the UK's most prominent economists. He's an expert on the UK economy, emerging markets and global trends. Gerald is also chief economist at Netwealth, having taken up the position in 2016. He's also a Senior Independent Director at the bank of China. He's a chair of the Risk Committee at bgc, which is part of the Cantor Fitzgerald Group, among many other things.

Now, clearly given Gerald's focus on the UK economy, I wanted to get his views on a certain recent fiscal event and what he thinks the consequences of the budget might be for the year ahead, both for the UK economy and for asset markets. But we won't just focus on the uk. I'm also keen to get his views on whether we've really seen the back of inflation or whether there may be any nasty surprises on that front or any other fronts in 2026. So, Gerald, it's great to have you on Merden Talks Money. Thanks for coming.

[Dr. Gerard Lyons]

Lovely to be here. Thank you for asking me.

[John Stepek]

So I was just reading a piece that you wrote in the immediate aftermath of the budget on capex, in which you described it as bad, bad, bad. What do you feel was the worst overall element of the budget?

[Dr. Gerard Lyons]

Well, the most disappointing part about the budget is that while all budgets are impacted by a combination of politics and economics and the public finances, usually it's the budget before the election that's dominated by politics. And ever since, I've been following budgets. The first and usually the second budgets after elections are driven by the economics and by the public finances, in the sense of the government of the day wants to set out its economic vision and also usually they want to get the public finances back into shape, often so they can actually spend a bit more money ahead of the next election. But usually the first or second budget after an election is, where's the economic vision? Let's get the finances into shape. We have had neither of those aspects in either last year's budget or this latest budget. In fact, both were driven by politics, shall we say. And so the disappointing thing is there was no economic vision there. The public finances were given some temporary reprieve. But the underlying picture is the reason I called it bad was I thought it was bad for the economy, I thought it was bad for incentives, and also, despite the near term positive spin, it was bad for the public finances.

[John Stepek]

I mean, that's interesting because, I mean, I think that, I mean, you're right. Usually the first couple of budgets are where we expect to get the hard choices made. And actually the whole point about this budget was the hard choices were all ducked in favor of preserving, arguably preserving, Rachel Reeves and Keir Starmer's careers for now. So whenever you're saying about the public finances still being at risk, because obviously gilts markets have kind of seem to have calmed down. We started the year with everyone panicking or worrying that bond markets generally, not just here, but in the US as well, we're going to revolt. And so far that hasn't happened.

[Dr. Gerard Lyons]

Yeah, let me answer that in two bits. First, let me say why I think the finances are in bad shape. Then I'll come on to the market reaction to the budget. The UK is a low growth, low productivity, low wage economy, but alongside that we've become a high public spending, high taxation and high borrowing economy. And this budget has not addressed any of those issues. Public spending continues to rise A year ago, taxes went up by 69 billion pounds. In this budget they went up by 26 billion pounds. Now there was this magical, magical of reduction in borrowing four years out. Now we have a cathartical fiscal process in the uk. We're all sitting here talking about the budget and all these numbers refer to fiscal rules that are self imposed, that apply in four years time. The margin of error on a one year ahead economic forecast is high and the margin of error on public finances difference between government spending and revenue. Given the large numbers involved, that margin of error is equally high. So we have this situation where we have best guesses about four years down the line of fiscal rules that set things. But the Chancellor unveiled front loaded spending increases, particularly next three years, then backloaded tax increases that hit very hard, particularly stealth taxes. But there was a combination of taxes and in the final year there's this fall in the borrowing requirement. But the reality is that that's unlikely to occur because public spending will likely be rising as we head into next election. In fact, I think Britain is heading for a debt trap by the end of this decade. A debt trap is when your level of Debt is above 100% of GDP and when your rate of economic growth is less than the rate of interest you're paying on your debt, you then basically have to run what's called a primary surplus, a surplus where you take out interest payments and you have to run a primary surplus just to stand still. We haven't run that many surpluses. In fact, if you take wider surpluses, the big picture stuff, we've only run seven budget surpluses since 1969. So the fiscal numbers are not being addressed. Spending is still rising. Can you believe this? Center of Policy Studies who I'm associated with a few weeks ago did an analysis From 1990 to 2019, the year before the pandemic, we've had 54 medium term spending plans in the UK and in every single case, 54 out of 54 spending has exceeded expectations. Never once have, regardless who's in power, never once have we come in below those targets. And those targets aren't particularly hard pressing. They allow a lot of room to spend money. So the reality is spending's going up, taxes unfortunately would go up and borrowing still pretty high. Now coming onto the market, you're right, the bond market's raised because the obvious.

[John Stepek]

Question here is they get lied to every time. So what is it? Are the gilts markets just daft? It's like, why don't they get this?

[Dr. Gerard Lyons]

Well, it comes down to expectations management. The worst thing about this budget, apart from what was announced, was the shenanigans in the two, three weeks beforehand. Now, the OBR mistake, obviously they've taken responsibility for that. That shouldn't have happened. But also pre budget purda should be restored. Obviously you cannot stop rumours, but normally you have this period of silence. Before the budget we had deliberate kite flying, misleading messages. Now that didn't help. I don't think it helped economic or business confidence. The outlook for any economy is the interaction between the fundamentals, policy and confidence. And we can never predict confidence, but confidence was such that people basically stopped doing things. Savings ratio has picked up, but people stopped spending. Companies decided to wait and see. So I don't think that helped the economy in the run up to the budget. But coming back to your question about the markets, the markets reacted in a neutral to positive way, I would say for four reasons, but two key ones. The first key one was that the fiscal black hole, or the fiscal gap, however it was being described, but people called it the black hole that was less bad than feared. So in that respect the Chancellor managed expectations. Some people have used other words in recent weeks to describe that. So the fiscal black hole was not as bad as expected. And second, very importantly, the fiscal headroom was rebuilt. Now the headroom is the buffer. You allowed yourself to meet your main fiscal rule. Jeremy Hunt, her predecessor, Rachel Reeves predecessor Hunt had gone, squeezed the buffer down to a very small amount before the election. Foolishly, Reeves kept with that in her first budget, but it was 9.9 billion. We now know it was down to 4 billion before she took any measures. So she's rebuilt the headroom to £21.7 billion, so that lessens the chance of a Groundhog Day situation next year. So the markets reacted both to the fact that the black hole wasn't as bad as feared and the headroom was rebuilt on top of that. There were two other factors. One, the announcements of the gilt sales whilst it was still high, was marginally less than the markets had feared. A shifting from longer dated because defined benefit schemes are now not buying really long dated gilts. So a lot more issuance of short to medium term gilts, which is what the markets was anticipating. So all that announcement was well received. And then also the takeaway from the budget was that it would lead still to an interest rate cut. So the markets reacted to the gap, the headroom, the issuance news and also the expectation that the bank of England would still be able to cut interest rates in December well, actually moving on.

[John Stepek]

To the bank of England, because this does feel as though Rachel Reeves, because obviously she also leaned against inflation in quite an artificial way by kind of changing energy bills, that sort of thing.

[Dr. Gerard Lyons]

You know who tried to do that? Diocletian in the year 301. I think he said inflation is too high so let's control the price of vegetables.

[John Stepek]

Did that work out well for him?

[Dr. Gerard Lyons]

Yeah. When you have a modern day Chancellor think they can artificially keep inflation down. Well, it is artificial, let's be clear.

[John Stepek]

I mean, it definitely smacks to try to game the system slightly. But in terms of the bank of England's role in all of this, actually, generally, because obviously there's been talk about how the bank of England should have been more careful with quantitative tightening. The bank of England.

Has its management of interest rate policy been as on the ball as it should have been. And I'm just curious to get your take on that. Do you think interest rates are heading down next year?

[Dr. Gerard Lyons]

Okay, interest rates are heading down. I'll come back, if I may on the bank of England because I think they've done a terrible job. But in terms of interest rates, yeah, I think they would trend down. A rate cut is not guaranteed in December. The vote at the last meeting was five to four not to change. And when one saw the individual paragraphs on the different members voting decisions, there are some entrenched views there. Inflation is sticky, so those people against cutting rates will probably find reason not to cut. But I think there will be a cut in December. Rates I think will trend down next year. Now one of the big factors that the markets are not taking on board, I think, is the involution effect in China. Involution is the key buzzword in China. I've just come back from two weeks in China in such a competitive position. Its export sector is phenomenal. Its quality car production is incredible. And at the same time as having real value for money production, the Chinese currency is moving with the dollar. It's definitely not paid, but it's moving with the dollar. So the dollar is depreciating. The dollar has been hit by passive diversification. International investors are not actively selling US assets. They're putting less of their net new money into the States. So the dollar is weakening. The Chinese curr to the dollar indirectly is weakening. So Chinese goods are incredibly competitive. And I think there will be a swathe of Chinese exports coming to Western Europe. It will really compromise, to be polite, the European auto industry. But in the UK we will see A real positive impact from this in disinflationary effect.

[John Stepek]

This is basically a wave of deflation coming back out.

[Dr. Gerard Lyons]

Disinflation, deflation, you might say the auto industry, definitely. And so I think that factor hasn't been factored in to expectations.

[John Stepek]

Sorry, just to pick up one thing quick. So involution.

This is where companies are so competitive that are basically not making any money at all.

[Dr. Gerard Lyons]

Well, they're so competitive. It's so cutthroat. And it's been an issue since June of last year in China. June 24th. And so we've had a year of this in China. So you have close to deflation in China. China's still as an economy doing well, but it's at cutting edge on AI manufacturing. UK still has quality high end manufacturing, but we're suffering from energy policy, et cetera. But bottom line is for the bank of England, I think interest rates next year will go down to 3.5% by the spring and I would say the base will be 3% by the end of next year. I would like to see interest rates eventually settle nearer 3.5% but I think interest rates will undershoot what I think would be their norm next year. Now the bank, like the Fed, is very cautious in terms of cutting rates. That gradualism is understandable when you look at sticky inflation and how that has been in the service sector. But I think the trend for rates will be down in the uk. But you asked a wider question about the bank a couple of weeks ago. There was a letter from the Governor to the Chancellor. I was surprised it didn't receive a bigger media pickup because in it the Governor said QE was an unbridled success, which is complete nonsense. He then said quantitative tightening is a technical exercise and did not justify the selling of gilts now as opposed to letting the gilts mature. So wrong on that as well. So two wrongs so far. And also defending the payment of bank rate on full commercial bank reserves at the bank of England, which gave the Arch Chancellor some ammunition to not change this policy. And again wrong on that, because the payment of full bank rate is not necessary for monetary policy. It costs the taxpayer money. The European Central bank, for instance, has a tiered system that allows it to actually not pay full bank rate and allow monetary policy to work properly. Qe, quite frankly, has gone through. It's a bit like interest rates. You have to look at QE in the context of the economic environment and we've had three stages of qe. The good, the unnecessary and the bad, the good after the global financial crisis when it was justified. Then the complete unnecessary QE and cheap money for 10 to 12 years when it led to asset price inflation, led markets that not price properly for risk, led to a misallocation of capital, led to zombie firms remaining in business, led to growth firms being denied access to that capital and it fed the inflation. We to describe any aspect of that as good is complete nonsense. And then we had the bad QE policy after the pandemic, when it was. What did we do the last time there was a crisis? Oh, we had QE without recognizing that the QE after the global pandemic was wrong compared to the QE after the global financial crisis. So I think question marks have to be continued to be raised about monetary policy. But we only ever judge monetary policy in terms of base rate it seems. But the markets very much will be focused on that base rate aspect and the wider quantitative tightening impact and the impact that has on the yield curve as well.

[John Stepek]

I mean, you're right, I did notice that and I did think it was, it was kind of strong for him to say that. Oh yeah, over, over the course of QE and qt it's all going to basically net out and be profitable. And you're kind of. Yeah, but wait a minute, we're, we've already had the bit where the government took the money out from QE and now the taxpayers having to pay that back. So having kind of netting it out like that, it doesn't really work for taxpayers today because we weren't actually really given the option putting the money in a savings account for the future. Ten years ago or whenever it was that George Osborne kind of changed the accounting for qe. So yeah, I did think that was an interesting way to look at it.

[Dr. Gerard Lyons]

Absolutely. In one respect it leads into a wider debate about the relationship between the central bank and government because this has always been a gray area in terms of QE and the fact that we haven't really sort of examined all the pros and cons of it. But it's very relevant in the States at the moment where there's a debate being held in public about the roles and responsibility of the Fed, the likely change of the ahead of the Fed next year.

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[John Stepek]

What is your view on central bank independence? Because obviously it's always promoted as being the thing that created the stability of the last kind of, well, of the first 10 years of the millennium basically. And I mean that's always struck me as just this convenient timing rather than anything else.

[Dr. Gerard Lyons]

Well, in modern day terms one of the challenges is that central banks are not held to as much account as they should be. Certainly here in the UK there was the Lord Forsyth House of Lords Economic affairs report a couple years ago which was quite devastating. On the bank of England that was an exception. Then we had the Bernanke Report last year which was also pretty devastating. Now, given what was raised in the Bernanke reports, I would have hoped that the central bank would be more under the spotlight than it is. But we have this situation in the UK where any criticism of the bank is regarded as an attack on its independence or integrity, when what it really is is a challenge to its competence and its credibility.

[John Stepek]

Yeah, so demand and accountability is not the same thing. As undermining independence.

[Dr. Gerard Lyons]

A year before the bank of England was made independent in 97, there was a report by very famous economist Barrow in the bank of England Quarterly Bulletin which examined central bank independence and it concluded that central bank independence did not guarantee low inflation. It said, actually it's normally a third factor, something outside of the bank's control. And you could say in the first 20 years of Central bank independence, as was the joke in the City, it has to be said it was an external factor. I say the joke in the City because for many years the City said the CPI Consumer Price Index should be renamed the China Price Index because it was international factors. Now coming back to independence, once you have an independent institution to take away the independence as we're seeing in terms of how the markets are reacting to debate about the Fed sends too many negative signals, et cetera. So what you really want to do is retain the independence, but to have more accountability and better examination of the issues. Central bank independence.

Was not everything it was made out to be, but to reverse it is dangerous and damaging. But what you can actually do, certainly here in the uk, in the wake of the budget, you can use it as an example of how we should be re examining how these institutions can do their job better. And indeed, if I may like here in the uk, I quite like the obr. There was an external review of the OBR earlier this year. It was the third five year review of the obr. Again didn't receive much press coverage. Bloomberg yourselves covered it in February. It was Dutch experts and it said you need to move away from an obsessive focus on fiscal headroom to focus on medium term fiscal numbers. I think that's important because if you focus on the headroom for all the problems it entails, you immediately focus on taxes because that's the lever you can pull when you start to move to medium term. Forecast politicians ignore it because they're not thinking beyond the next five years. Which is disappointing because OBR says that the UK's medium term fiscal numbers suggest debt is heading to 270% of GDP. 270. Once you move away from fiscal headroom and taxes and focus on the medium term, you then focus on the thing you have to get under control, which is public spending. So all of these issues is make the bank do a better job, keep it independent, use the OBR, bet in a different way and start to reframe this policy debate. So we do use experts, but we do have political accountability. And what we're trying to achieve is an economy that does better rather than just ticking short term boxes.

[John Stepek]

Well, I look forward to that happening once a horrendous crisis actually forces us to do it. But look, obviously none of that is terribly happy sounding, but for our readers, they're sort of thinking, well, what? Actually, sorry, not our readers, our listeners getting a bad habit too many years of editing a magazine. What do you think is the outlook for UK companies and for UK markets this year? It's because, as I say, this doesn't sound great for the wider economy.

[Dr. Gerard Lyons]

One of the positives in terms of the companies is that when one asks firms about their own situation, they tend to be quite upbeat. So there's quite a divergence between what firms say about their own balance sheets and position versus what they think about the economy. Now, in the past it's usually been the case that what firms have said about their own situation which has been the better predictor of what is to come. So that should give us some confidence. Obviously it varies across the boards. Small firms are 99.8% of the economy, but they're not the dominant players in the market. Obviously the FTSE 100 is very much driven by international factors. The banking sector came out of the budget very well. That's the important factor. And so the global picture is one of modest growth. The UK economic picture is one of modest growth. The OBR's forecast for the year ahead is 1.5%. Market consensus is probably closer to 1%. So it's modest growth. The savings ratio is quite high, so people have the ability to dip into their savings if they want to. So in terms of investment, I don't think the budget itself set down the good benchmark as we were touching on. But the prospects for interest rates is quite key here. And if interest rates trend down, then I think that will be a positive development. At netwealth, we very much talk about the need to be globally diversified, given the unpredictability of US policy, the uncertainty globally, a key thing in the year ahead is liquidity. Whichever investments you go for, you need to be thinking of liquid, not illiquid investments. The growth of private markets is a big development in the year ahead. People are going into crypto and other assets. Bear in mind that a consequence of unpredictability in policy is high volatility. So again, one needs to be cognizant of that feature. But overall I'm not negative. I would highlight the fact that the picture itself, both in terms of growth and markets, is far more nuanced. And if you decide to be more risk averse then it's important to bear in mind that not all risk averse type assets react in the same way to all risks. By that I mean you need to be very clear why you are buying a particular asset class. And so overall I would still be as invested as possible, I would be diversified and I would be very global in one's outlook.

[John Stepek]

That is an interesting point because it's actually been a pretty spectacular year for markets this year, which again, given all the gloom over politics in general, sort of felt a bit counterintuitive. But I was looking at numbers and the FTSE 100 is up with its best year since 2009.

Plenty of the other global markets, in fact the US is the laggard this year for the first time in a long time. I'm just wondering, do you think, will this trend of the rest of the world catching up continue next year or do you think that this was a one off?

[Dr. Gerard Lyons]

Yeah, we had a great year at netwealth. And it's reflecting all those different moving parts.

Is not that the risks and the downsides are not important, but if you pin everything onto those, you can get caught out by other factors. Volatility is there, there's no doubt about that. That's reflected in the gold price, for instance. But it was not just cheaper in terms of price, but cheaper in terms of where real yields were a few years ago to be buying gold than it is now. So the point is that you need to look at all these factors. But coming back to your specific question, yeah, what we have is Western Europe, unfortunately is the slow growth region of the world economy. The Draghi reports from September 2024 talked about the innovation gap. The first anniversary of the Draghi report a couple of months ago showed that only 11.2% of the recommendations had been executed.

[John Stepek]

A whole 11.2%. That's really specific. I'm quite impressed. I want to know how they managed to get the 0.2. What measure was that exactly?

[Dr. Gerard Lyons]

Because I kept thinking what they need to focus on is a mindset change. That's what you need to move away from that. So Western Europe is in difficult position. I think that turn the atlas around is my point, and I've been saying this for a number of years now, so is you need to look at the world with the Indo Pacific with India on your left, America on your right and you look at where the growth engines are. So it's about UK companies positioning themselves within this and the UK economy itself. But coming back to your question, yeah, the global environment, I think, is still an attractive one. But put this in perspective, the IMF is a good benchmark for global growth forecasts, and they expect global growth in 2026 to just be above 3% as it was in 2025. Now, trouble is, we've become used to these growth rates. Before the global financial crisis, that global growth rate on the IMF measure was around 4.5% or so. So we have a significant slowdown. But more of that growth is coming from other parts of the world than the UK and Western Europe. So therefore we do need to be thinking in a very international way.

[John Stepek]

And is there anywhere in particular that stands out to you as being attractive.

[Dr. Gerard Lyons]

For next year.

In terms of the global peak?

[John Stepek]

Any regions that you'd probably want to weight more towards or anything like that?

[Dr. Gerard Lyons]

Yeah, you need to be thinking structurally longer term. Take for instance, India's growth rate is the highest.

Globally, but it should be far higher than it is now given its population dynamics. But in answer to your question, it's that Indo Pacific region, but particularly East Asia, looks pretty dynamic itself. The Chinese economy, they have their 15th five year plan. Obviously there's issues about where one invests in China, but East Asia is generally a strong positive. But then let's come back to the dynamic sector AI. Now on the global comparisons for AI, whether you Stanford University or the Australians are pretty good with their global measures. There's two countries that dominate China and America. And if we were using a football analogy, we would go from the Premier League down to the championship to Ligue 1 and then we get the third country, which is Britain. That is, we're in the pretty good position, but let's not kill ourselves. Those two countries are so far ahead. But the important point in terms of your question about investment is that America and the Magnificent Seven, their balance sheets are pretty good and they are investing heavily in capital investment that will help the US economy. But the challenge is the markets have almost fully discounted a lot of that news. But when you look at the earnings expectations in the US market, there's such a difference between that Magnificent Seven and the rest of the economy in the States. So it's again, to use the word nuanced, it's not a case of just picking one country or one region. You need to differentiate between those factors.

[John Stepek]

Are you worried about an EA bubble? Do you have a view on this? Do you have a sense of whether there's a kind of dot com type bust coming at some point, whether it's next year or a couple years hence.

[Dr. Gerard Lyons]

Well, there are always risks out there. The way I would answer the question is this. Look at the three big macro moving parts. First, we've got a significant shift globally globalization to fragmentation, protectionism. There's no replace free trade and home country bias has therefore come to the fore. So then the second big factor is that you now have uncertainty, unpredictability in terms of US policy making that seen in trade policy and institutions. And then you've got that third big factor coming through in terms of geopolitics and geoeconomics and you basically have supply chains being disrupted. So all of those parts come to answer the question here, there is some underlying strength, but in terms of markets putting pricing for risk, it's often linked to the liquidity cycle. We've got central banks, their balance sheets have been shrunk, but there is still sufficient liquidity driving these markets. Next year we'll see the growth of private markets, the growth of crypto. But in answer to question, yeah, I think markets are not fully pricing in the risk, but that doesn't mean these markets are about to adjust tomorrow. I still think if rates are trending lower, the answer to this question becomes more apparent as you end the interest rate easing cycle or as you approach the end of the interest rate.

[John Stepek]

As long as rates are heading down, you've got that.

[Dr. Gerard Lyons]

As long as there's economic growth and rates are heading down. Earlier I talked about the UK heading for a debt crisis later this decade. Unfortunately that before six of the G7 countries later this decade, markets might start to anticipate that more. But we saw it recently with France being a worry. France and the UK depend more on foreign investors to buy their debt than anyone else. But in answer to your specific question, you never say never. But I think the point I was trying to make was there are enough other structural moving parts. That means that that that question you asked should not just be the dominant question and you need to answer that question itself within the context of the other moving parts and also the interest rate cycle.

[John Stepek]

So now I'm going to ask you something that is very simplistic and straightforward, but next year, what is the one thing you'd be most worried about that could derail the fun that we've been having this year, if that's the right word.

[Dr. Gerard Lyons]

Well, the geopolitics is always a concern and that goes without saying. The unpredictability of policy is a concern, but in macroeconomic terms, it has to be the debt issue.

[John Stepek]

Yeah. So do you think that could come to the boil next year.

[Dr. Gerard Lyons]

Yeah, in the sense that markets anticipate. And as we saw in France a couple of months ago, the French government found it hard to pass what the markets perceived was necessary legislation on pensions. And that led to not only political but financial problems in France. So in the UK it could come to the fore if you had sticky inflation. As I say, I'm expecting that disinflation trend to allow rates to come down. Let's assume a different universe where domestic inflation remains high in the US and in the UK and suddenly the markets start to think rates are not trending down, that actually they've already hit bottom and could the next move be up? Obviously the markets are not thinking that, particularly if there's a change in Fed leader coming. But if you started to change perceptions because of sticky inflation and then that key relationship between not only the level of debt, but relationship between rng, interest rate and growth, the markets will start to think, well, these issues are mounting. There's no easy get out clause. Now let's anticipate these problems and factor them in. Now, crowded trades are a dangerous thing for any investor. Crowded trade is where you all do the same thing because you all think everyone else is doing it and then you think you can get out quicker. The analogy people used to use, probably some people might think it's a nap analogy, is the idea of someone standing up and saying fire in the middle of a theater. Everyone rushes to get out the emergency exit at the same time. So the idea is in the crowded trade, when people run for the exits, they don't do it in an orderly, predictable way. And so you need to be sort of very aware of that. So in terms of the debt problem, it encourages investors to start being more cautious sooner. Yeah. No.

[John Stepek]

Okay, that makes a lot of sense. Is there anything else that you wanted to bring up specifically, Gerard, as you feel we've covered what you were wanting.

[Dr. Gerard Lyons]

To because we're here at this Eidelman thing. I was just on the panel before and someone asked a really pessimistic question on the uk, as you probably would a week after the UK budgets, which was a disastrous budget, as we said, and they said, is there anything positive to say? So maybe let's. Given it's Christmas time, let's try and cheer people up on the UK Savings ratio is high, corporate balance sheets are good. Being outside the single market allows the UK to have regulatory autonomy in the area of AI, which is the big growth area of the future. Also gives us regulatory autonomy in the city. The Financial markets, we haven't really pulled that lever yet. But the banking sector, as we touched on, came out of the budget relatively well. Being outside the customs union actually allows us to cut trade deals with the fast growth both regions of the world. And despite everything, the growth picture for the UK is seen as one to one and a half percent. And we've discounted, we hope, a lot of the negative news. So maybe there might be some positives on the upside and also maybe it's the case. I say maybe. I'm covering myself a lot here, aren't I? The housing market has been stagnant for some time. The mansion tax, which was really a London and Southeast of England tax, it was such a stupid tax. Such a stupid tax. Do they not realize how many people work in industries linked to the housing market? I worked at his City hall for a while and there were figures used internally about how many tradespeople were working on housing to do up housing. When you start to tax housing, as we know from other countries that have done this, you discourage people from upgrading their property, you discourage people from doing them up, up. And it has a much wider economic impact.

[John Stepek]

Well, we've all seen that with stamp duty.

[Dr. Gerard Lyons]

Absolutely discourages turnover. Now, maybe the positive, given. I was trying to get a positive out of this.

[John Stepek]

That's what I was thinking this. Doesn't he sound very happy.

[Dr. Gerard Lyons]

Now, given that we had a lot of uncertainty and given that some of these taxes don't feed in for a few years, maybe we might see some turnover return to this market as well. And that helps things as well.

[John Stepek]

Well, yeah, because I suppose if. I mean, if interest rates do tick lower and they have been ticking lower, then mortgage, kind of like credit, will be available more, come more cheaply and more readily. So you may see a bit of an uplift alone. The only problem with house prices going back up is that obviously there are an awful lot of unhappy young people, particularly in London, who that seems to me to be one of the drivers of political distress rather than.

[Dr. Gerard Lyons]

Yeah, well, actually, the budget. Let's finish on the budget again because the real golden opportunity in the first or second budget after an election is to try and simplify the system. We have the most complex, and it's particularly evident it is relevant to young people as well, in terms of the Manhattan skyline of taxes. We have high marginal tax rates and the way it used to be described in the treasury was, Manhattan skyline. They go up and then they go down. Then you earn a bit more money, they go up again, then suddenly you earn a bit more, they go down. Because if you're a worker with the student loan you're repaying your student loan, you now have a 9% higher marginal tax rate. Unforgivable. Not only unforgivable, but the augur report in 2019 to review higher education came out with a recommendation to actually lengthen the time from 25 years to 40 years. I joke to people that if you'd studied history at university, you could probably cram all your history lessons into one month and you could be repaying a student loan for 40 years on your one month of studies. So high marginal tax rates for students, high marginal tax rates, then hitting again around £60,000 and if you're lucky enough to have £100,000 high marginal tax rates. But obviously for younger people, I think we haven't done enough to reduce that burden. In the early 60s this was debated about whether students should repay student loan. Obviously smaller number of people, very different.

[John Stepek]

Class of people then.

[Dr. Gerard Lyons]

But it was decided why burden them at an early stage in their career with this excessive debt? Obviously complex issues, but the point is that we need to be doing more to help young people. You need to be building houses, you need to be reducing stamp duty to actually have more mobility. You need to actually lessen their tax burden as well.

[John Stepek]

Alison, thanks very much for your time Gerard. Really appreciate you coming along to talk to us about the state of the budget and the UK economy.

[Dr. Gerard Lyons]

It was a great pleasure to be here. Thank you.

[John Stepek]

Thank you.

Thanks for listening to this week's Mern Talks Money. If you like her show, rate, review and subscribe. Wherever you listen to podcasts and keep sending questions or comments to merrinmoneyloombird.net this episode was hosted by me, John Stepek. You can also follow me on Twitter or x. I'm John Underscore Stepek and mern is at Merdensw. This episode was produced by Somersadi and Mosesandam soon by designed by Blake Maples. Special thanks to Dr. Jared Lyons, Edelman, Smithfield and the London Stock Exchange.

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[Dr. Gerard Lyons]

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