The FTSE 100 index slid to its lowest mark for three months and the pound slipped against the euro and the dollar following election results that mean no single party is capable of forming a majority government.
Sterling lost 3 cents against the dollar and 1.5 cents against the euro.
Early trading saw the FTSE shed 1.6 per cent of its value.
The markets appeared to be reflecting concerns that a hung Parliament will not be in a strong position to push through measures aimed at cutting the UK’s budget deficit.
They did, however, rebound after the Liberal Democrats indicated they may be prepared to offer the Conservatives a coalition deal.
The pound regained a cent against the dollar, and the FTSE 100 reclaimed its earlier losses.
Meanwhile credit ratings agencies, Moody’s and Standard and Poor’s, said that the result of the election would have no bearing on the UK’s AAA rating and that there were no plans to downgrade.
Reaction in the City was, in general, uneasy.
The former head of the CBI, Lord Digby Jones said: “What everyone wants is boring predictable stability. If in a week’s time there is still a squabble then I repeat, the markets will punish us with higher interest rates.”
Alan Clarke, economist at BNP Paribas, warned of the risk of a downgrading of the UK’s credit rating: “Ahead of the election we saw the risk of downgrade at close to 50 per cent. On the basis of the election outcome as it looks now, a downgrade looks to be the most likely outcome.”
Ruth Lea, economic adviser at Arbuthnot Banking Group, called for urgent political agreement: “If there is a coalition, I would like to see them come up with a spending review as quickly as possible and the Conservatives – or the other party in the coalition – back it up. These three parties have got to see that this is a big crisis, there could be a sterling crisis, a gilts crisis.”
Michael Saunders, economist from Citigroup, expressed fears that if the Conservatives attempted a minority government, they may be reluctant to cut the deficit too quickly in case they came under political fire from the electorate: “Fiscal tightening on the scale needed to get back to fiscal sustainability may well not be politically sustainable with a minority government.”
James Knightley of ING added: “The worst thing for markets would be a coalition government failing in a few months and a new election being called. This would intensify the pressure on ratings agencies to downgrade the UK’s sovereign rating from AAA and make fiscal consolidation even more difficult.”
