UK Chancellor's Deputy Soothes Markets: Yield Volatility is Normal, Demand for Gilts Remains Strong

The deputy of UK Chancellor of the Exchequer Rishi Sunak stated that the UK government is indeed facing increasing pressure as borrowing costs rise and there is a general sell-off in the UK government bond market. However, the Gilt bond market (i.e. UK government bond market) is operating normally, and financial market institutions have strong and consistent demand for UK debt, with no so-called rise in issuance costs. Recently, in the market sell-off, the yield on UK 10-year government bonds has risen significantly, reflecting continued high inflation and market concerns about UK austerity budgets and the UK government's debt repayment capacity. "The UK Gilt bond market continues to operate in an orderly fashion," said Darren Jones, Chief Secretary of the UK Treasury, responding to emergency questions raised by the opposition Conservative Party in the House of Commons on Thursday. "It is normal for the prices and yields of government bonds to fluctuate significantly when there is wider volatility in financial markets." Before Jones made his statement, the pound exchange rate had dropped to its lowest level in over a year, stocks had also fallen, and Gilt bonds (i.e. UK government bonds) had experienced four consecutive days of significant declines. The main reason for this is that investors are increasingly concerned that with high inflation and waning confidence in the UK economy, the long-term borrowing costs anchored by the 10-year UK government bond yield are continuing to soar, making it difficult for the UK Labour government led by Keir Starmer to control budget deficits. Furthermore, the deputy Chancellor also mentioned that there is no need for emergency intervention measures to support the UK Gilt bond market. "The UK government does not comment on specific trends in financial markets, this has been a long-standing practice," Jones stated. "I will not break this government practice today." Jones also mentioned that the demand for UK Gilt bonds in the market remains very strong, citing the oversubscription of the new 5-year government bond auction issued by the UK government yesterday. In the past few days, UK long-term borrowing costs have soared, and the pound has plummeted - this rare combination may indicate that investors have lost confidence in the government's ability to control government debt and inflation. Typically, rising yields would support currency performance. Investor concerns about the economic strength of the UK under persistent high inflation and the fears triggered by Chancellor of the Exchequer Rishi Sunak's radical fiscal plans are intensifying. With worries about whether the size of the UK's public debt can continue to support the economy, the UK has become one of the countries most affected by this week's global sovereign bond market sell-off, with UK government bonds plummeting even more than US Treasuries. The sudden rise in UK long-term bond yields could erode the slim budget space of 9.9 billion (approximately $12 billion) left by Sunak after announcing her first budget as UK Chancellor in October. The recent turmoil in the UK bond market has been compared to the chaotic mini-budget of Prime Minister Thras in 2022, but some analysts see it as more akin to the debt crisis of the 1970s. This is the analysis of former Bank of England interest rate setter Martin Weale, who suggests that the Labour government may have to take spending cuts to assure the markets that it will address the ever-increasing debt burden if sentiment does not change. In the past few days, UK long-term borrowing costs have skyrocketed, and the pound has plunged - this rare combination may indicate that investors have lost confidence in the government's ability to control government debt and inflation. Typically, rising yields would support currency performance. Weale suggests that these events bring to mind the "nightmare" of the 1976 debt crisis, which forced the government to seek assistance from the International Monetary Fund (IMF). "We haven't really seen the fatal combination of a large drop in the pound and a sharp rise in long-term rates since 1976. That situation led to the assistance of the IMF," said Weale, current economics professor at King's College London, in an interview. "So far, we are not in that situation yet, but this is certainly one of the Chancellor's nightmares." UK government bond yields continued to soar in early trading on Thursday, with the 30-year UK government bond yield hitting its highest level since 1998. Portfolio manager Mike Riddell of Fidelity said in a report that the movement of UK bond yields is in line with the rise in global bond yields, driven by the increase in US Treasury yields, but there have been concerning developments in recent days, with the rise in UK government bond yields outpacing those of other bond yields as the pound falls. Normally, rising yields would lift the currency. The drop in the pound and the rise in yields indicate severe fiscal challenges for the UK, and if the current trend continues, it "may indicate consumers striking or capital flight," Riddell said in the report. Tradeweb data shows that the 30-year UK government bond yield rose to 5.455% at one point, before falling back to 5.385%. FactSet data shows the pound fell to a one-year low of $1.2239 against the dollar.