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The lack of confidence in the British economy has become contagious. From enterprise it has now spread to financial markets. Last week, investors dumped gilts and sold the pound, as concerns grew about the UK’s fiscal sustainability. Yields on 10-year government bonds are close to their highest in 16 years. If they are not withdrawn, Chancellor Rachel Reeves’ “armored” fiscal rule — to balance the current budget in five years — will be breached. To regain credibility, the Labor government must quickly produce credible plans to boost economic growth and rein in spending.
The recent sell-off in gilts was fueled by developments in the US. Higher inflation expectations in the world’s largest economy — linked to President-elect Donald Trump’s tariff program and strong economic data — pushed up yields on government bonds, the benchmark for global borrowing. This has fueled concerns about debt sustainability in other economies. But negative chatter about the prospect of Britain’s “stagflationary” growth, following tax hikes in last October’s autumn budget and the limited room Reeves has left against her fiscal rules, has made the UK a prime target for bond-warriors.
What can the government do? Unless yields start escalating out of control, announcements of cost cuts or revenue increases right now could smack of desperation and perhaps even push yields higher. Bonds come with ebbs and flows, and the current selloff was not messy. Comparisons with the market panic caused by former Prime Minister Liz Truss’s “mini” budget in September 2022 are insignificant.
But doing nothing is not an option either. Trump’s capriciousness means global bond markets will remain weighed down. And the message from investors is that their faith in Britain’s ability to cut costs and boost growth in this volatile environment is quite low. The work must then complete its own economic strategyinstead of talking vaguely about future efficiency savings and pro-growth. Businesses and investors want to know how Britain’s prospects will improve significantly in the near future.
This means that the government must redouble efforts remove obstacles to employment, investment and business expansion. Plans published on Monday creating AI “growth zones” is a start. But businesses also want to know how much-lauded reforms to the planning system will actually speed up building processes across the country.
The industrial strategy — planned for spring — is also an opportunity for galvanization the trust citing a number of key infrastructure projects and ambitious plans to improve access to highly skilled talent. Reeves could outline intentions for tax cuts and simplification ahead of the autumn budget, which will be the main fiscal event of the year. This could help increase business appetite.
Bond traders, however, will also be looking for evidence of near-term improvements in Britain’s fiscal position. The chancellor is right to rule out further tax increases, which would be disastrous for confidence. But it means Labor must be prepared to make savings in expensive but politically sensitive areas such as social benefits, the civil service and the triple lock in pension payments. Indeed, if the fiscal arithmetic does not improve significantly, the government could make cuts that will be included in the Office for Budget Responsibility’s next forecast on March 26.
Rising bond yields are a wake-up call. Workers should remain calm and avoid hasty announcements, but they cannot continue in the slow and vague way they started. It is time for the government to explain clearly and in detail its strategy for achieving growth and reducing costs.
