Even if the Conservatives win the 650th seat, they will at best be 7 seats short of an absolute majority and 5 seats short of a working majority – a hung parliament.
Prime Minister Theresa May announced that the Conservatives would form an informal alliance with the Northern Irish DUP which won 10 seats. The DUP would support the Conservatives in key votes, likely in exchange for some say on government policy.
Theresa May’s future seems secure for now but medium-term I would expect her position to come under close scrutiny and a party-leadership battle remains a distinct possibility.
Sterling has weakened about 1.5% post election, in line with my and market expectations. The Conservatives’ loss of seats raises serious questions about Theresa May’s leadership, her decision to trigger early elections and the risk of a party leadership battle to oust her.
Moreover, markets will likely remain concerned about the shelf-life of a Conservative-DUP alliance and its ability to push legislation through parliament.
However, I also see scope for Sterling’s downturn to fade and even reverse in due course. To be clear, a V-shaped Sterling recovery would likely remain elusive.
Two key questions pertain to the likelihood of this new Conservative-DUP formal alliance 1) securing an advantageous EU deal and 2) opting for a “hard” or “soft” version of Brexit.
If anything, the past two months have reinforced my view that the government is ill-equipped, ill-prepared and lacking in institutional capacity to negotiate complex deals with the EU and non-EU partners.
The composition of parliament and its take on Brexit leave Theresa May in somewhat of a bind. The government may therefore have little choice but to seek support from some of the 322 opposition MPs who on the whole favour the UK remaining in the EU or at the very least a “soft” version of Brexit.
So while I do not expect a second referendum on the UK’s membership of the EU, I do see a possibility of the government toning down its rhetoric and potentially opting for a softer version of Brexit – a development which UK financial markets would welcome in my view.
At the very least, this election has further weakened the idea that nationalist parties in Europe are gaining the upper hand.
Read UK Election: Clutching defeat from the jaws of victory in full.
