Chancellor Reeves doubles the amount— £40 bn added to 100% National Debt

The Chancellor’s budget has triggered a notably adverse reaction in the bond markets, underscoring a significant disconnect between fiscal policy and the money markets. In response to negative sentiment, yields on government bonds (gilts) have increased, indicating that investors are now demanding higher returns to offset perceived risks in the UK economy. Yesterday I reported that FT: 10y Guilts had risen +0.04%. Today they are +4.43%. This increase reflects rising borrowing costs for the Treasury, a direct consequence of waning investor confidence.

Simultaneously, the cost of Credit Default Swaps (CDS)—instruments that allow investors to hedge against credit risk—has fallen. Yesterday they had fallen FT: 10y -0.06%— Today they are trading at -3.42%, translating to a much higher cost for those seeking protection against potential UK government default. This shift in CDS pricing signals that investors view the UK government as a higher-risk debtor, further challenging the Chancellor’s efforts to fund public initiatives.

As a result of these market shifts — Yesterday the Treasury was facing a marginal £0.02 billion in the additional £40 billion borrowing costs. This has now risen to around £1.6 billion. This burden will likely necessitate higher taxes and sustain elevated interest rates, benefitting commercial banks at the expense of economic stability.

The pound is under downward pressure, declining against other major currencies. While a rally is possible, continued depreciation could raise the cost of imported goods and services, fuelling inflation through a wage-price spiral and further constraining economic growth.

The Chancellor’s budgetary approach appears to overlook the fundamental role of the money markets in securing affordable government funding, ultimately risking further strain on the UK economy, or Is It Me!

See my warning commentary on the UK Economy in Double Jeopardy

(end of updates)

The UK national debt stands at approximately £2.7 trillion, nearing C of GDP, meaning the country owes almost as much as it produces in a year. With plans to borrow 22 billion, with an additional £20 billion, potentially increasing to £50 billion, this debt could grow even more.

When countries borrow, they issue bonds that international investors buy, effectively lending money to the UK. If investors perceive the UK as over-leveraged, or think the government might struggle to repay, they may demand higher interest rates to compensate for the added risk.

This increase in borrowing costs can push the UK into a cycle where debt becomes more expensive to service, with interest payments eating up more of the government’s budget.

If borrowing costs increase, the government will spend more on interest payments rather than on essential services or investments. This phenomenon—higher interest payments without corresponding growth—could reduce the government’s ability to fund vital programs without raising taxes or borrowing even more.

Higher interest rates can also discourage businesses from borrowing and investing, as it becomes more expensive to finance operations or expansion, potentially leading to stalled economic growth.

“Fiscal drag” refers to the effect where, despite government investment, actual economic growth doesn’t reach expected levels because taxes or inflation dampen consumer and business spending. If fiscal drag sets in, the anticipated growth from public investments in science and technology might fall short, meaning the government wouldn’t generate enough additional tax revenue to offset the new debt.

If businesses are already facing high interest rates on loans, reduced profitability due to slower consumer spending, or additional taxes, many could struggle to remain profitable, leading to potential layoffs and business closures.

Increased Unemployment: If businesses can’t afford to grow or even stay afloat due to high borrowing costs, job losses may rise, contributing to an economic downturn.

Reduced Consumer Spending: High unemployment typically reduces household income, leading to lower consumer spending. Reduced consumer demand can further slow economic growth, creating a vicious cycle.

Exchange rate fluctuations (ERF): Downward pressure on the pound’s exchange rate can impact the prices of imported goods and service and feed into the inflation Wage-Price Spiral.

Potential Recession or Depression: If the government’s efforts to stimulate growth don’t outweigh these financial pressures, the economy could contract. In severe cases, a prolonged contraction may lead to a deep recession or even a depression characterised by long-term high unemployment and significant economic hardship.

The UK’s heavy debt and increased borrowing costs might limit its ability to invest in areas like science and technology, which are intended to spur growth. If interest rates rise, the government will have to divert more money to cover debt payments, leaving less available for public services or economic initiatives.

Meanwhile, businesses facing higher costs and taxes might cut jobs or close down, leading to increased unemployment and lower consumer spending. If this downward cycle deepens, it could lead to a prolonged economic slump, making everyday life harder through job losses, reduced economic opportunities, and possible tax increases and higher Bank interest rates.

The Royd Monetary Policy Empowers Economies, by avoiding these dangers, by producing a balanced economic growth with social well-being. It includes a thoughtful approach to housing market dynamics, and sectoral focus.

The policy proposes reducing mortgage interest rates to sustainable levels and stimulating growth by using Bank of England Discounted Rates to support economic sectors that significantly contribute to the UK economy.

Additionally, it seeks to boost central bank reserves and improve the UK’s sovereign credit rating, which would help lower interest rates on national debt.

Given the availability of alternative monetary strategies and the likely impact of fiscal drag on projected growth, can the Chancellor clarify if this additional £20 billion loan is genuinely aimed at fostering economic expansion, or is it intended to address the shortfall resulting from recent fiscal commitments, including wage increases influenced by union negotiations?

I think it is the later, or Is It Me?