Bond market rounds on Rayner’s economic platform
Angela Rayner’s economic response to the Labour party’s bruising local elections defeat would trigger a sell-off in UK governments debt at a time when Britain’s borrowing costs are already at multi-decade highs, bond investors and analysts have warned.
The former deputy Prime Minister laid out a detailed proposal for how her party to respond to Thursday’s historic defeat at the ballot box, which included “immediate action to cut costs for households” and a windfall tax on energy firms.
But several fixed income experts told Morning Wire that the platform proposed by the Labour leadership contender would constitute a “toxic mix” that a gilt market already under pressure from the Iran war would struggle to afford.
“It’s a struggle to see how she stays within the fiscal rules,” said Matthew Amis, investment director at Aberdeen Investments. “So the conclusion from the gilt market would be that it’s going to be a struggle.
Amis added that the easiest way for any leadership contender to lower the borrowing costs they inherit is to prove they have a plan to “answer the tough questions on spending”.
In a lengthy post on social media, Rayner unveiled a slew of tax and spend measures on Sunday that she argued would restore her party’s relationship with working class voters. She insisted the measures would fall within the Treasury’s current fiscal rules by “by ensuring those who benefit from the crisis contribute more so that everyone can thrive”.
But Richard Carter, fixed income analyst at Quilter Cheviot, warned that even if the plans fell within the government’s self-imposed spending straitjacket, “gilt investors are likely to remain sceptical about the overall policy mix”.
“Further increases in the tax burden are also unlikely to do much to stimulate growth,” he said. “Investors would welcome an end to the current political uncertainty and leadership speculation, but whoever takes over will still have to confront the UK’s fiscal constraints fairly quickly.”
Borrowing costs hit multi-decade highs
UK government bonds have come under immense pressure across the curve since the onset of the conflict in the Middle East. Both short- and long-dated government bonds have sold off dramatically, with investors fearing the protracted closure of the Strait of Hormuz will stoke a fresh bout of inflation and dent Britain’s already anaemic growth prospects.
The yield on the 10-year gilt – the benchmark for a country’s long-term ability to borrow – has climbed by nearly a full percentage point since the US’s first strike on Iran, and is now at levels not seen since the financial crisis. Two-year gilt yields, which track investor projections for central interest rate closely, have risen by more than a full per cent over the same period.
But those the downward pressure on bonds – whose prices move inversely to their yields – were further stoked by the rampant speculation over Keir Starmer’s future, with gilt investors fearing any replacement would initiate a more left-leaning economic agenda.
Helen Thomas, chief executive of political economy research house Blonde Money, said Rayner’s plans for more draconian wealth taxes and greater public ownership look like “a plan for inflation and unproductive growth”.
“It is precisely kind of toxic mix that a gilt market already facing the stagflationary impact of the Iran war can ill afford,” she told Morning Wire.
In a research note on Monday, Jeffries analyst Modupe Adegbembo said protracted leadership speculation would cause the yield curve to steepen, meaning long-term borrowing costs would become even more expensive for the government to issue than short-term debt.
“Heightened fiscal uncertainty and rising leadership risk argue for higher term premia,” she said, referring to the increased yield bond traders demand for holding long-term debt, usually on the grounds of a government’s fiscal imprudence.