UK Government Bond Yields Soar, Sparking Concerns Over Public Spending Cuts and Tax Rises
The UK government’s debut budget plan, launched in October, has sparked widespread concern as borrowing costs rise to breach numerous decade highs. The 30-year gilt yields have reached their highest level since 1998, while the 10-year yield has reached levels not seen since 2008.
Rising Borrowing Costs: A Major Headache for the UK Government
The surge in UK yields is a significant challenge for the UK government, which has pledged to reboot economic growth while ensuring debt declines as a share of the economy within five years. UK public sector net debt currently stands at nearly 100% of GDP.
Self-Reinforcing Feedback Loop
ING Senior European Rates Strategist Michiel Tukker notes that the rise in gilt yields has a self-reinforcing feedback loop through the UK’s debt sustainability, increasing borrowing costs used for budgeting purposes. This could wipe out the government’s estimated headroom of £9.9 billion for meeting its self-declared fiscal rules.
Fiscal Rules Under Threat
The Institute for Fiscal Studies think tank suggests that there is a “knife-edge” chance of the UK achieving its fiscal rule, committing Labour to covering day-to-day government spending with revenues. Finance Minister Rachel Reeves faces an “unenviable set of options,” including bringing forward changes to how debt is calculated, paring back current spending plans, announcing more tax rises, or doing nothing and breaking her rule.
Vicious Circle of Fiscal Policy
Economists Ruth Gregory and Hubert de Barochez at research group Capital Economics warn that UK gilts may be trapped in a “vicious circle,” where the rise in UK yields puts a strain on public finances, calling for an even bigger tightening of fiscal policy, but in turn putting additional strain on the economy.
Global Economic Concerns
Former UK Finance Minister Vince Cable notes that higher bond yields are being seen in many countries and are not an “emergency panic situation.” However, markets have realized Britain is stuck in a “slow growth trap,” with relatively high inflation, very slow growth, and broader concerns over UK growth and the global economic picture.
Tax Rises and Fiscal Consolidation
Bank of America Global Research strategists suggest that Labour may announce further fiscal consolidation measures, including spending cuts, in the spring or earlier. This could potentially be through spending cuts, coming off the back of the £40 billion in tax hikes announced in October.
No Crisis, But Economic Headwind
Wider analysis suggests that the current situation is not a crisis, but rather an economic headwind. Bank of America strategists call comparisons with the mini-budget “overblown,” while Capital Economics notes that last week’s higher gilt yields were an economic headwind but not a crisis.
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