Stocks, bonds, and currencies all plunge together! Reversal in Reeves' tax policy causes renewed budget anxiety in the UK market.

Various speculations surrounding the budget are exacerbating the uncertainty of the UK's financial outlook, leading to the country's financial markets once again falling into turmoil. After news that Chancellor Rachel Reeves had abandoned plans to increase income tax, UK government bond yields recorded their largest increase since July on Friday, causing the pound and the FTSE 100 index to plummet. However, subsequent reports suggested that the policy shift was due to the UK's fiscal watchdog providing more optimistic fiscal forecasts, resulting in a narrowing of market volatility. According to sources, economists had previously predicted a fiscal deficit as high as 35 billion (approximately $46 billion), which has now narrowed to around 20 billion. Just this Monday, Reeves hinted at possibly going against her party's commitment to not raise income tax in the budget announcement later this month. Sources indicate that Reeves is expected to retain a fiscal space of between 15 billion and 20 billion to comply with her fiscal rules. They point out that the risks of a downgrade in productivity, previously a concern of the Office for Budget Responsibility, have been partially offset by other positive factors. The Chancellor had previously stated her desire to establish a more substantial fiscal buffer than the 9.9 billion reserved in last year's budget and March's Spring Statement. However, sources added that significant tax increases are still being considered to fill the remaining fiscal gap. Mohit Kumar, Chief European Economist and Strategist at Jefferies, expressed concern, stating, "The worry is that this budget may be based on overly optimistic growth forecasts. We will have to wait and see what specific measures the Chancellor will propose." Following severe turbulence, as of the time of writing, the UK's 10-year government bond yield hovered around 4.50%, with an intraday increase of up to 13 basis points. After narrowing a decline of 0.6%, the pound against the US dollar exchange rate is now at 1.3133. This significant volatility has broken the recent rare calm in the UK market, which has been repeatedly shaken by fiscal concerns in recent years. Friday morning saw the largest bond market volatility since July, when speculation about Reeves possibly resigning due to a reversal in welfare reform policies had unsettled investors about the UK's fiscal situation. Tax policy suddenly reversed The UK Treasury stated in a written declaration, "We do not comment on speculation about tax adjustments outside the fiscal events." The statement also noted, "The Chancellor will present a budget that prioritizes fair choices and lays a solid foundation for the future of the UK." This decision marks a significant shift in Reeves' policy direction. In recent weeks, she had been laying the groundwork for increasing income tax for high-income groups. Earlier this month, she broke convention by making a non-routine televised pre-budget speech, calling on the public to support her primary task of reducing inflation and borrowing costs. Several senior members of the Labour Party had openly warned Reeves that there were risks in going against election promises. This week, controversy arose over the potential challenge to Prime Minister Keir Starmer's position within the cabinet, casting doubt on the continuity of his government and adding further pressure on the budget set for November 26. Former Bank of England Monetary Policy Committee member Michael Saunders noted that the government's current policy communication is damaging its credibility. "They need to choose a strategy and stick to it," he said. "Constantly changing course gives the impression of political weakness. The key is to make a choice and stick to it." It is understood that the Labour Party had pledged in their 2024 election manifesto not to increase the three major taxes for the middle class income tax, national insurance tax, and value-added tax. Sources revealed that Reeves had been prepared to go against these promises but the improved fiscal forecasts made it unnecessary. They stated that due to strong government revenue performance and wage growth surpassing expectations, the latest internal update report from the UK's Office for Budget Responsibility presented a significantly positive trend. Sources also disclosed that Reeves plans to increase fiscal revenue by adjusting the income tax threshold in the budget and significantly increasing taxes through a salary sacrifice scheme (where employers provide non-cash benefits to employees in lieu of some salary). Additionally, Reeves is considering the implementation of an exit tax for wealthy individuals leaving the UK and possibly easing a tax proposal for limited liability partnership professionals. Throughout her 16 months as Chancellor, Reeves has emphasized the importance of maintaining investor confidence in UK government bonds, repeatedly asserting that her fiscal rules are "rock solid." Earlier this summer, Prime Minister Starmer's failure to defend her in parliament led to an increase in government bond yields, but his subsequent full support for her saw yields fall again, solidifying her position. However, actions by Labour cabinet members since the election have made Reeves' job increasingly difficult they forced the government to abandon potential cost-saving measures worth billions of pounds, including cuts to subsidies for those with poor health who are unable to work, and subsidies for energy bills for the elderly. The increase in spending has led Reeves to consider a series of tax increases, which in turn could hinder her promise to boost the UK's sluggish economic growth rate.