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UK government bond yields have marched higher since the start of the Labor government debut budget plan in October sparked widespread concern last week as borrowing costs rose to a multi-decade high.
The prospect of reducing government spending or further raising taxes has come into focus 30-year gilding productivity hit them the highest level since 1998. Despite an initial slump following Labor’s election victory in July, 2 year old gold plated yields also climbed above 4.5%, while the yield on the 10-year note hit a level not seen since 2008.
The fall in investor confidence in the UK was particularly highlighted by a simultaneous fall in the pound, which on Friday hit its lowest level against the US dollar since November 2023.
The cost of borrowing is also rising euro zone and USAand economists note that the UK is under pressure from external factors, including Donald Trump’s return to the White House and expectations of higher-than-expected interest rates this year.
But the UK’s productivity surge is nonetheless a major headache for the UK government, which has promised restart economic growth while ensuring a reduction in debt as a share of the economy within five years. UK public sector net debt currently accounts for nearly 100% of GDP.
“The rise in gilt yields has a self-reinforcing feedback loop through UK debt sustainability by increasing borrowing costs used for budgetary purposes,” ING senior European rates strategist Michael Tooker said in a note on Friday.
Tucker cites analysis by the independent Office for Budget Responsibility which shows that the recent rise in productivity — if it persists — will wipe out the government’s estimated £9.9 billion ($12.1 billion) buffer to meet the targets. self-proclaimed fiscal rules. These rules commit Labor to cover day-to-day government spending from revenue, and aim to move towards a lower UK debt-to-GDP ratio over the longer term.
The Institute for Fiscal Studies think-tank said on Friday there was a “knife-edge” chance of Britain reaching the latest fiscal rule, but Chancellor Rachel Reeves could be “lucky”.
Otherwise, it faces an “unenviable set of options,” IFS deputy director Ben Zaranko said, including suggesting future changes in how debt is calculated to make more room for the head; reduction of current spending plans; announcing new tax increases that may change in the coming years; or do nothing and break its rules.
Economists Ruth Gregory and Hubert de Barrochez of research group Capital Economics also said British piglets could be caught in a “vicious cycle” in which “rising UK profitability puts pressure on public finances, requiring further tightening taxation policy, but, in turn, creates an additional burden on the economy.”
The pound against the dollar.
Strategists at Bank of America Global Research said on Friday that Labor is unlikely to break its rules and instead announce further fiscal consolidation — measures to reduce the national debt, generally cut government spending or raise taxes — in the spring or earlier.
This could potentially come at the expense of cost-cutting, they added £40 billion in tax rises which Labor announced in October.
A Treasury spokesman told CNBC: “This government’s commitment to fiscal rules and sound public finances is non-negotiable.”
“The chancellor has already shown that tough spending decisions will be taken, and the spending review to stamp out waste is ongoing. And in the coming weeks and months, the Chancellor will leave no stone unturned in his determination to deliver economic growth and fight for working people.”
Britain is in a “slow growth trap” — but not in a mini-budget crisis
Former British Chancellor of the Exchequer Vince Cable told CNBC on Friday that higher bond yields were seen in many countries and were not a “panic emergency” but that markets realized Britain was stuck in a “slow growth trap.”
“We’ve been there for many years, starting with the financial crisis, then Brexit, then the Covid problem and the war in Ukraine, and we’ve been stuck with relatively high inflation, very slow growth, and so the markets are marking the UK down. , relatively speaking, it’s not a panic situation, it’s not a sell-off of the old balance of payments situation,” Cable said.
Labor should have gone for a wider range of tax increases rather than focusing on the National Insurance increase that was criticized by the UK business communityCable said. However, he added that there were broader concerns in the market about UK growth and the global economic picture, which was clouded by external factors such as a weaker outlook for China.
Cable also downplayed comparisons with Britain’s mini-budget crisis in 2022when then-Prime Minister Liz Truss’ announcement of sweeping tax cuts caused huge volatility in the bond market.
“The Truss moment was that the Prime Minister just took a reckless leap in the dark with a big increase in the budget deficit, thinking it would somehow lead to economic growth. Well, obviously that’s not what happened this time. did they do enough brutality and did they do it the right way, but that’s a different kind of problem,” Cable told CNBC.
This sentiment was widely reflected in the broader analysis. Bank of America strategists called the comparison with the mini-budget “excessive”, noting that the bar for intervention by the Bank of England in the gilt market, as it was at the time, was high.
Capital Economics said last week’s higher gold yields were an economic tailwind but not a crisis, with smaller and slower moves than since the mini-budget; while David Brooks, head of policy at consultancy Broadstone, said there appeared to be no “systemic problems” in liability oriented investment (LDI) funds of greatest concern in 2022.
