Bond traders hit out at ‘chorus’ of high tax advocates in No 10
Bond traders have hit out at the “chorus” of Westminster voices advocating for higher taxes as government borrowing costs soared to the highest level seen this century.
Gilt yields, which feed into the cost the government will have to pay bondholders through debt interest payments, soared to their highest level since 1998, with the interest rate on the 30-year government bond surpassing the 5.7 per cent mark on Tuesday afternoon.
The yield on the UK’s 30-year government bonds has climbed higher than the US and France, which are both suffering from political instability amid fears Federal Reserve chair Jerome Powell could be deposed and suggestions the French government could collapse this week.
Fixed income managers across the City, who hold and trade gilts, have told Morning Wire that swirling tax rumours and the lack of appetite for spending cuts in the UK are to blame for troubles in the bond markets.
Andrew Wishart, senior UK economist at the private bank Berenberg, said the selloff leading to a fall in the price of gilts, which moves inversely to yields, could “reflect concerns” that Starmer’s new hires risked pushing for policies that exacerbated inflation.
Wishart explained that the appointment of Minouche Shafik as Keir Starmer’s chief economic adviser and the promotion of Torsten Bell to lead on Autumn Budget preparations may have prompted a negative response among traders.
The appointments suggested the government would accelerate the “sprint to net zero” and offer “more generous benefit payments”, which could damage the UK’s public finances, according to Wishart.
IG’s chief market analyst Chris Beauchamp said the new appointees would “bolster the chorus of those calling for higher taxes” in the Labour government, with current attempts to maintain fiscal credibility seen as “papering over the cracks”.
“Global markets are not minded to allow a blank cheque for government spending in this post-Covid world,” Beauchamp said.
Russel Matthews, a senior portfolio manager at RBC BlueBay Asset Management, said the rise in gilt yields shone a spotlight on market fears that higher taxes would harm growth and worsen inflation, with spending cuts likely to be favoured by City traders.
“The main factor is the perception that the government lacks a credible plan to curb runaway welfare spending.
“Without such measures, market confidence risks eroding. While tax speculation adds noise, the underlying issue is structural—whether the UK can avoid being pulled into a worsening fiscal position.”
Matthews also suggested a “heavy supply” of gilts issued by the Debt Management Office, which is an independent public organisation, and the Bank of England’s quantitative tightening (QT) process had made problems more “difficult”.
Asset managers at the investment firm Ninety One also highlighted the problems of a “heavy reliance on foreign funding” and a “skewed” gilt issuance profile towards longer maturities as playing a role in turmoil seen in the markets.
Government borrowing costs are double defence budget
Treasury officials are also likely to be concerned about higher borrowing costs, which are set to destroy the small £9.9bn fiscal headroom Rachel Reeves left at the Spring Statement.
Leading City forecasters expect debt interest payments made by the government to surpass projections set by the Office for Budget Responsibility in March.
The cost of servicing debt in 2024 was roughly £104bn in 2024, which is double the government’s total expenditure on defence and a few billion pounds short of total spending on education.
Reeves has said that there was “nothing progressive” about paying off US hedge funds which hold government bonds, with much of fiscal policy depending on the “goodwill of strangers”.
Bond traders reckon with ‘paradox’ in the market
Investors emphasised demand for gilts remained high as auctions held by the DMO were often oversubscribed. But some claimed that UK government bonds remained expensive compared to others available, with Lale Akoner, a market analyst at the investment platform eToro, claiming this had created a “paradox” in trading.
“Market confidence in UK debt is robust, but financing that debt is increasingly expensive, constraining budget flexibility and raising the stakes for fiscal discipline ahead of the Autumn Budget,” Akoner said.
Nedgroup Investments’ head of fixed income David Roberts launched a defence of the Treasury and said gilt yields had risen across the world, with tax rises and some stability in policymaking to lead to a “rally” in the UK bond market.
“As bank deposit rates are cut, we expect increased retail demand which is sensible, especially into non-taxable vehicles such as ISAs and self-invested personal pensions,” Roberts said.
Berenberg’s Wishart added the government would have “surely learnt its lesson” not to tax businesses further and give rise to higher price growth, which would stave off future interest rate cuts lowering borrowing costs.
The new hires in No 10 could also focus the government’s mind on bond markets and financial conditions, Wishart added, which could at least suggest “no 1970’s style crisis” was coming.
“More economic and market nous in No 10 should ensure meeting the fiscal rules is a priority this autumn, which would reassure investors,” Wishart said.