Sanguine markets must look again at Labour

The challenge for the financial markets during the six-week slog to polling day may be to stay awake as much as anything else. A Labour victory has been so heavily discounted and the phoney election campaign has been running for so long that it will take more than the spice of John vs Tony, live and in debate, to prevent eyelids closing on the dealing desks.

Nevertheless, Mr Major has clearly determined that the long haul - 45 days at the hustings, the longest election campaign this century - is the best route to staying in power. That's time enough to expose Labour's financial illiteracy and fiscal irresponsibility while allowing a steady flow of good economic news to filter through.

The initial reaction from the markets might suggest that his strategy has got off to a good start - the pound down against the Deutschmark and dollar, gilts off half a point and the Footsie tumbling by more than 50 points as the prospect of Tony Blair's first cabinet looms large. Like most knee jerk reactions, however, this one may well prove wrong.

Adjusting for the number of stocks going ex-dividend, the response from the equity markets to the naming of election day was less marked than that from the foreign exchanges. In the event that Labour does form the next government, it ought to be the other way around.

Gordon Brown has banged on for so long about fiscal rectitude, balanced budgets, low inflation and the need to cost every spending pledge, that it is difficult to get a cigarette paper in between the two main parties on macro-economic policy. If an incoming Labour government does find itself confronted with a sterling crisis, it is more likely to be about how to control sterling's rise than prevent it from falling through the floor.

The outlook for the corporate sector is much less promising. Labour's pledge not to raise either the basic or high rates of tax looks ominous. The obvious target now that these this avenue has been closed off must be companies, since neither companies nor the pension funds that provide their capital possess votes.

So far the only tax-raising pledge is the windfall levy on the privatised utilities. But will a Labour government be able to resist fiddling with corporation tax? And will a Labour government be able to resist further restricting, perhaps even abolishing the tax credits that exempt funds enjoy on dividends?

If the latter were to happen then it would take a 10 per cent correction on the equity markets to maintain current yields. The markets are perhaps being more sanguine about the prospect of a Labour win than they ought to be.