LONDON (Reuters) - A phone-hacking scandal at one of Britain's best-selling newspapers exploded in July, dragging in politicians and the police as Rupert Murdoch's News Corp media empire struggled to contain the fallout.
Politicians on all sides came under criticism for having enjoyed too close a relationship with News Corp executives and editors, but Prime Minister David Cameron was most tarnished by the affair, having employed a former News of the World editor who had been linked to the hacking affair as his communications chief.
Opinion polls show Cameron's standing among voters dropped in the wake of the phone-hacking scandal, but pollsters cautioned that this would not necessarily translate into a serious impact at the ballot box, where voting decisions are traditionally driven by economic concerns.
Nor is the opposition expected to push for an early election. A general election does not have to be held until 2015 and the Labour party is still regrouping under a new leader.
Cameron's Conservative Party does not have a candidate at the moment who could present a serious challenge to him, and the Liberal Democrats have no desire to provoke a split given their own current weak standing with voters.
Nevertheless, worries over the economy will keep pressure on the relationship.
Concerns over the strength of Britain's economic recovery -- and whether it can withstand austerity measures aimed at slashing a record budget deficit -- persist. Data set after data set shows the economy continues to struggle.
And Britain's involvement in Libya's conflict risks turning into an unpopular, long-haul foray -- despite a pledge by the year-old government to be less interventionist than the previous Labour administration.
Leaders of both government parties have stressed they signed up to a five-year programme to tackle the budget deficit and won't let the coalition collapse, reflecting the sense they have little choice but to stick it out until the economy improves.
But the Lib Dems have vowed to push harder for their goals. There have already been clashes over plans to reform the NHS and over voting reform, and differences are emerging over what more could be done to help boost the flagging economy.
Policy-making in what has been called the second phase of coalition government is likely to be slower and more confrontational, although the Lib Dems made little political capital out of the phone-hacking scandal even though it appeared to vindicate Business Secretary Vince Cable.
Cable was removed from the decision-making process after a secret recording was leaked in which he "declared war" on Rupert Murdoch's empire.
Some political pundits have suggested a cabinet reshuffle could be on the cards in the next few months but that is unlikely given the store Cameron and senior public servants have set by having ministers remain in post for some time to achieve greater stability in government departments.
If there were to be changes, vulnerable ministers could include veteran Conservative Ken Clarke who came under pressure after comments on rape sentencing. Lib Dem minister Chris Huhne has also been in the headlines over the handling of a driving offence.
OPPOSITION STILL WEAK
Although the Labour Party performed relatively well in May's local elections, questions continue about party strategy under Ed Miliband. The poor showing in Scotland has added to doubts about Miliband's leadership.
The party has failed to capitalise on tensions in the coalition or voter disenchantment, although Miliband has largely been judged to have performed well in his response to the phone-hacking scandal.
What to watch for:
- A police investigation into the phone-hacking scandal at News of the World (NoTW), and any related revelations. Cameron has insisted he had no indication that his former communications director Andy Coulson was involved in phone-hacking when he was NoTW editor so any evidence to contradict this would be a serious blow to Cameron;
- Clashes over policy between coalition partners;
- Signs of Lib Dem frustration with party leader Nick Clegg
- A government reshuffle of key ministers;
- Signs of discontentment among Labour activists
AGE OF AUSTERITY
Critics of the coalition say its plans to cut spending by 81 billion pounds over the next four years go too far, too fast and risk plunging the country back into recession.
The economy effectively froze in the six months spanning the turn of the year, with gross domestic product growing 0.5 percent in the first quarter of 2011 to make up for a 0.5 percent drop in the final quarter of 2010. It grew just 0.2 percent between April and June, and industrial output shrank.
The figures have fuelled worries that Britain's economy is not strong enough to cope with such a tough austerity plan.
The OECD has reaffirmed its support for the government's deficit reduction plan but Britain's public finances have failed to show much improvement in the first three months of the fiscal year, underlining the task that lies ahead of ministers in delivering on their fiscal promises.
Unions, which helped stage a mass protest in London in March against the austerity measures, warn that the poorest will be hit by cuts to public services. Analysts expect industrial action across a range of state-funded occupations, with pension reform a particular flashpoint.
The economy is expected to bounce back this year, but only at a fairly slow growth rate.
The bad news doesn't end there. Inflation is running at over 4 percent -- more than double the central bank's 2 percent target -- and could hit 5 percent in the coming months.
The coalition wants the Bank of England to support the recovery while it slashes government spending, but the central bank has come under pressure to tighten monetary policy to bring down inflation this year.
What to watch for:
- Signs that Britain's weak recovery further loses steam;
- Signs of slippage in the spending cuts programme;
- The timing of the Bank of England's next policy move. A rate hike is not expected before Q1 2012 at the earliest. Another round of quantitative easing is possible but economists are divided over whether that would have much impact.
Britain's role in Libya could pose a headache for Cameron as the conflict drags on, and as the West's objectives appear to test the remit of a U.N. resolution aimed at protecting civilians.
Britain has committed helicopters to efforts to tame Muammar Gaddafi's troops and there are concerns that, despite Cameron's assurances, British troops could be deployed on the ground.
Cameron, whose Conservatives had pledged a less aggressive approach to foreign affairs before the 2010 election, will want to avoid the fate of former Labour Prime Minister Tony Blair, whose time in office was blighted by an unpopular decision to join the U.S. invasion of Iraq.
There have also been concerns that Britain's armed forces could struggle to cope with any kind of protracted mission in Libya, given funding cuts and ongoing operations in Afghanistan.
What to watch for:
- The Libyan conflict dragging on, changing the West's role. Defence spending cuts taking a toll on operational ability;
- The UK getting dragged in to any other conflicts, such as Syria.
(Created by Jodie Ginsberg, Editing by Sitaraman Shankar)