UK borrowing costs drop as Reeves speaks
The cost of UK borrowing is falling as Rachel Reeves outlines her priorities for this month’s budget.
The chancelllor’s promise that she has an ‘iron clad’ commitment to her fiscal rules is probably reassuring bond investors.
The yield, or interest rate, in UK 10-year bonds has dropped by 4.5 basis points (0.045 percentage points) to 4.39% this morning (from 4.43% last night).
The yield on 30-year bonds has dropped by 5 basis points, to 5.166%, the lowest in about a week – but further from the 29-year high of 5.75% hit in early September.
Those are relatively small moves, but certainly moving the way the Treasury would like to see.
UPDATE: Victoria Scholar, head of investment at interactive investor, says:
In an unusual address ahead of this month’s Autumn Budget, Chancellor Rachel Reeves tried to prepare voters for tax cuts by laying out the UK’s economic challenges.
She talked about how Tory-era austerity hurt years of capital investment and how productivity performance is weaker than previously estimated.
She said inflation is still too high and interest rates are still a constraint and government borrowing costs have increased. Reeves also said her commitment to the fiscal rules is iron clad, pushing 10-year and 30-year bond yields lower.
Key events
This morning’s address by the chancellor was an “odd speech”, argues economist Paul Johnson, the former head of the Institute for Fiscal Studies thinktank.
Johnson, now Provost of The Queen’s College, Oxford, posted on X:
In one sense fair enough to blame last government for problems. But wrong to pretend all utterly unexpected and couldn’t possibly have been predicted at election or budget last year. We knew the risks when tax promises were made. And so did she.
Musa Sabo, director at tax advisors Andersen LLP, says people should brace for higher taxes:
“Rachel Reeves’ speech this morning has done nothing to ease the fears surrounding the upcoming Budget, and such a speech would only be required ahead of breaking their manifesto pledge not to raise taxes on working people.
“The message from the Chancellor is now clear – brace yourselves for an increase to income tax, national insurance or VAT at the Budget.”
There are three principle takeaways from Rachel Reeves’s speech this morning, reports Michael Brown, senior research strategist at brokerage Pepperstone, namely:
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The Chancellor all-but-confirmed that the OBR will be downgrading its trend productivity growth forecasts
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Reeves noted that she is seeking a greater degree of fiscal headroom (>£9.9bln that was left in the spring) to protect against future shocks
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Reeves refused to repeat the manifesto promises not to raise income tax, national insurance, or VAT
He reckons this means Reeves will deliver a larger fiscal tightening than had been expected, to address a black hola of perhaps £35bn, due to:
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£20bln from the OBR’s productivity downgrade
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£5bln from the failure to cut welfare spending
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£3bln from measures to cut consumer energy bills
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Between £5bln – £10bln in seeking to build a buffer larger than the £9.9bln in the ‘Spring Statement’
That means an income tax hike is now “incredibly likely”, Brown suggests, in two ways:
Firstly, the freeze on income tax thresholds, in place since 2022, and currently due to expire in 2028, looks set to be extended once more. This, over time, causes an effect known as ‘fiscal drag’, whereby an increasing number of employees are dragged into higher tax thresholds as earnings increase, but the thresholds remain unchanged. Freezing these thresholds is likely to raise around £10bln a year.
Secondly, an outright increase in income tax rates is likely to be delivered. Increasing the higher rate of income tax, likely an easier ‘sell’ to Labour MPs and voters, would raise around £1.5bln per annum, barely a ‘drop in the ocean’ in the grand scheme of things. Consequently, the balance of risks increasing tilts towards the Chancellor increasing the basic rate of income tax, where a 1p increase would raise between £6bln – £7bln a year.
For context, no Chancellor has raised the basic income tax rate since all the way back in 1976. That same year, the UK was forced to go ‘cap in hand’ to the IMF for a bailout, so here’s hoping history doesn’t repeat.
AJ Bell: Reeves should be clearer about her plans
“Rachel Reeves’ unusual stance of giving a big speech on the eve of the Budget has left investors with more questions than answers, and done nothing to remove uncertainty around taxes,” says Dan Coatsworth, head of markets at AJ Bell.
Coatsworth points out that the bond market would be happy if the chancellor raises taxes as it would help to improve public finances and make the UK less risky from an investment perspective.
He adds that Reeves needs to be clearer about what she is planning:
“The chancellor said the speech was about giving context to the challenges facing the government, but she batted away questions about taxes faster than an Olympic table tennis player.
“Many people are fed up with this game. There are growing calls for the chancellor to be crystal clear in her plans and make bolder decisions. No-one will be shocked at tax rises and many people believe it is better to sort the situation out once and for all, rather than keep tinkering at the edges. This feels like Reeves’ last chance to fix the house, otherwise her days could be numbered.”
City Index: pound falls as Reeves has little choice but to hike taxes.
The pound has now dropped to $1.3064, a new six-month low, as City traders anticipate tax rises in this month’s budget.
Sterling has lost more than 0.5% today, or around three-quarters of a cent, with analysts pointing to Rachel Reeves’s promise of an “iron clad” commitment to her fiscal rules, and her failure to rule out tax rises.
Fiona Cincotta, senior market analyst at City Index, says:
In a rare pre-budget speech, Reeves reiterated her commitment to budget goals and what many are considering as weaves, paving the way for more tax hikes and tough decisions in the Budget that would come close to breaking the party’s manifesto pledges.
Reeves is increasingly expected to lift income tax by 2p at the same time as lowering National Insurance by 2p as part of the measures that she will take to plug a fiscal black hole of over £20 billion. This means that working people won’t be affected, but pensioners will.
High spending, weak growth, and a productivity downgrade mean Reeves is now in a position where she has little choice but to hike taxes.
As Saxo Market’s Neil Wilson flagged earlier (see 9.41am) tighter fiscal policy (eg higher taxes) should typically lead to looser monetary policy (lower interest rates), which leads to a weaker currencey.
News story: Rachel Reeves avoids ruling out tax rises as autumn budget looms
Pippa Crerar
Rachel Reeves has refused to rule out tax rises in this month’s budget, insisting she must “deal with the world as I find it, not the world as I might wish it to be”.
The chancellor foreshadowed an income tax increase, a breach of Labour’s manifesto commitment, as a result of the public finances being in a worse state than expected after “years of economic mismanagement”.
In an early morning Downing Street press conference, she said that “each of us must do our bit” for the country’s future. “If we have to build the future of Britain together, we will all have to contribute to that effort,” she said.
“As chancellor, I have to face the world as it is, not the world that I want it to be. And when challenges come our way, the only question is the how to respond to them, not whether to respond, or not,” she told reporters.
Saxo: Sterling on back foot after Reeves hints at tax rises
The market reaction to Reeves’s speech thus far is to sell sterling, reports Neil Wilson, UK investor strategist at Saxo Markets.
He tells clients:
GBPUSD dipped to retake the 1.30 handle, hitting its weakest since April. It’s the pressure valve and Reeves wouldn’t like to see that kind of reaction coming directly from her speech.
Wilson reckons that this morning’s speech suggests ‘panic’ in the Treasury, writing:
Panic stations at Number 11 by the looks of it – offering a speech 3 weeks before the Budget that was only announced last night. The market is doubting credibility…
He adds that the message from the speech is that tax hikes are coming, adding:
This could well be a manifesto-breaking hike to income tax – she refused to say she would stick to the manifesto pledge to not raise income tax, NI or VAT. Lots of messaging around values and doing what’s right, not what’s popular.
Reeves is caught between various stools – the country (manifesto pledges), the party (spend more, protect the NHS), and the markets (gilts selling off just narrows the headroom). So, it’s a very tricky line to walk but ultimately, it’s the lack of political leadership from the top that is the making of this situation.
However, a bold tax hike should lower gilt yields and could allow the BoE to go further with cuts. This will be a contractionary fiscal blow to the economy. But the bet is that you get the market onside, generate confidence from certainty, which gives you more flexibility later. The risk is that you deal a big blow to confidence in the real economy and hit growth, which makes it all for nought. Either way, fiscal tighter, monetary looser suggests sterling remains on back foot.
New Economics Foundation: small tweaks won’t fix economic problems
Lydia Prieg, chief economist at the New Economics Foundation, has responded to this morning’s speech from Rachel Reeves:
“Rachel Reeves is right to say the economy isn’t working – but the challenges we face can’t just be solved by cutting regulation and making small tweaks to the tax system. We have a country that’s been ravaged by austerity, as well as an ageing population meaning spending on health and pensions is only set to increase. The scale of spending the country requires to get our public services and living standards up to scratch is significant.
Two things needs need to happen. Taxes will need to go up – and the chancellor should focus on those who are most able to contribute. To start with this government needs to equalise capital gains tax with income tax and get to grips with taxing land.
Secondly, this government will need to invest more – to do this they need to reassess the fiscal rules and the OBR’s position in assessing them. This is how we will achieve long term stability.”
During her speech, Rachel Reeves pointed to the record highs seen on the London stock market last week as a sign of the UK’s positive economic performance.
Unfortunately, the UK stock market has extended its earlier losses, with the FTSE 100 now down 97 points, or 1%, at 9604 points.
Although that’s part of a wider global selloff today, there may also be concern about the impact of higher taxes on consumer spending.
Daniela Hathorn, senior market analyst at capital.com, explains:
Overall, her [Reeves’s] comments framed a pragmatic approach to rebuilding fiscal resilience while managing public expectations ahead of the next Budget.
The market reaction has been limited, with gilt yields dropping marginally as investors welcome the emphasis on prudence. However, the FTSE 100 has extended the losses into the European morning as Reeves’ comments highlight a difficult fiscal situation in the UK, which could have a negative effect consumers and business in tax increases are announced on November 26th.
