Government borrowing costs mount on fears of inflation spike
Government borrowing costs have climbed on escalating fears that the war in the Middle East will push up inflation and leave interest rates higher.
The 10-year gilt yield jumped by some 14 basis points on Monday morning as traders continue selling off their gilt holdings over mounting fears that interest rates could rise.
Longer-term gilt yields rose by a smaller degree than bonds on shorter maturities, reflecting expectations that the Bank of England will avoid cutting interest rates in upcoming meetings.
The two-year gilt yield jumped by over 23 basis points while the 30-year gilt yield rose by around eight basis points.
This came as oil prices surged by nearly 30 per cent overnight to nearly $120 per barrel, heightening fears that it could thwart the Bank of England’s hopes of getting inflation to ease to two per cent by the end of the year.
Official forecasters across the government estimate that a 20 per cent rise in energy prices adds around one percentage point to inflation.
Market worries focus on disruption in the Strait of Hormuz near Iran and Saudi Arabia, with 20 per cent of the world’s crude oil trade passing through it. The strait has seen just a few ships pass in the last week compared to around 138 ships on any given day.
Government borrowing costs pile pressure on Reeves
Higher borrowing costs would deal a blow to Chancellor Rachel Reeves’ hopes of keeping public finances in check.
Falling gilt yields in recent months afforded Rachel Reeves with a larger fiscal buffer as of the Spring Statement. The Office for Budget Responsibility (OBR) revised up the headroom figure from £21.7bn to £23.6bn.
The government is expected to pay up nearly £110bn to its lenders in the current financial year, rising to £134.7bn by 2030.
The figure is now expected to be higher as a result of a rout in financial markets.
The renewed pressures on public finances are set to deal a blow to Chancellor Rachel Reeves.
Finance ministers from G7 countries including the US and Germany are set to meet with executives from the International Energy agency on Monday afternoon to consider a response to the oil price surge.
Government officials are expected to consider using strategic oil reserves in their response to market turmoil, a rare intervention that is spared for global crises. The last time such a decision to release oil reserves came was in 2022 in response to the war in Ukraine.