Governments around the world are uncomfortably watching their borrowing costs rise, following the lead of the US Treasury market. But even in a global bond disaster, Britain stands out.
British government bonds, known as gilts, are suffering a particularly harsh sell-off as investors retreat from the country’s sluggish economic growth, persistent inflation and high debt levels. The yield on 10-year gold, the benchmark, hit 4.9% on Tuesday, the highest since 2008, while 30-year yields were the highest since 1998.
Rising borrowing costs jeopardize the British government’s plan to revive economic growth by freeing up more money for public services and greater investment, less than three months after it was announced.
“At a time when yields are rising everywhere, global investors see the UK as the weakest link in the chain,” said Hugh Gimber, strategist at JP Morgan Asset Management.
And it’s not just bonds. The British pound is at its lowest level against the dollar in more than a year, underperforming other major currencies last month, while shares have fallen in London.
Gilts and government bonds of other countries are tracking higher than Treasury yields. After the US presidential election, borrowing costs have risen as investors with an eye on fiscal discipline expect President-elect Donald J. Trump to implement policies that will lead to higher inflation, while a succession of strong labor market reports have also eased expectations of rate cuts from the Federal Reserve.
Although the UK government is not directly responsible for the rise in its borrowing costs, it will have an impact on its economic plans.
In late October, Rachel Reeves, the Chancellor of the Exchequer, stood in Parliament to deliver Labour’s first budget in 14 years. He announced a 70 billion pound ($85 billion) annual increase in public spending over the next five years, about half of which is paid for by higher taxes and the other half through borrowing. He also said he would adhere to strict fiscal rules that would reduce debt levels.
The move was seen as a gamble, a decision to spend a lot of public money in the short term, to encourage investment and hopefully lead to more economic growth that would improve the country’s debt load and avoid raising taxes significantly again.
But sooner than expected, this plan is put to the test. Rising bond yields have made debt repayments more expensive, eliminating the buffer for Ms Reeves’ fiscal rules.
“We have clear fiscal rules and we will stick to those fiscal rules,” Prime Minister Keir Starmer said on Monday.
If that continues until March, when the Office for Budget Responsibility, an independent watchdog, publishes its semiannual economic forecasts, Ms. Reeves will have to decide whether to raise taxes further or cut spending to meet her rules.
“You have a government that has been left with some tough choices,” said Mr. JP Morgan Asset Management’s Gimber because he ruled out raising taxes again and it would be difficult to cut spending from already stretched government services. “Therefore, global investors are left looking at the mix of growth and inflation and demanding more compensation from UK baby boomers,” he said.
The wishes of global investors are particularly important to Britain, as around a third of its government bonds are held by foreign investors.
The fallout from the turmoil in bond markets is fresh in the minds of Britons. In late 2022, the government of then prime minister Liz Truss announced an aggressive plan to cut taxes and increase borrowing, sidelining the financial watchdog in the process. Bond yields soared, the pound plummeted, the central bank had to step in to stabilize markets and within weeks, Mrs Truss was ousted. Fears of a repeat have remained, encouraging Labor to insist it would govern with iron fiscal discipline.
“This is very different from the 2022 market scenario,” said Mr. Gimber. “This was a period where gold yields actually drove global bond yields higher. This time, gold yields are caught up in a global movement in bond yields.”
However, there are few signs of relief. Data released on Wednesday is expected to show that inflation remains at 2.6%, above the Bank of England’s 2% target. Traders are betting the central bank will cut interest rates just once this year.
This will continue pressure on the government to respond with fiscal plans that calm markets without abandoning its economic strategy.
Changing the budget would appear “politically weak,” said Benjamin Caswell, an economist at the National Institute for Economic and Social Research. These policies are still new, he added, and many of them won’t go into effect until April, so they need time to work through the economy.
“It depends on whether they have the political capital and the will to overcome it,” he said.
