A spike in the government’s cost of borrowing could force Rachel Reeves to introduce even higher taxes in the Budget, economists have warned.
The UK’s long-term borrowing costs hit their highest point in 27 years, adding to the Chancellor’s woes as she contemplates tax rises in the autumn.
Labour MPs are braced for a difficult Budget, with some calling for “frank conversations” within the party on welfare and public spending.
The interest rate on 30-year governments bonds – known as yields – reached their highest level since 1998 on Tuesday.
This makes the cost of servicing government debt more expensive.
Thomas Pugh, an economist at RSM UK, said that if yields stayed at this level, then it could cost the Treasury an additional £4bn to £5bn by the time of the Budget.
Pugh said he had previously forecast that the Government would need to raise taxes by about £20bn but predicted that “we’re probably now in the £20bn to £25bn region.”
The date of the Budget will be confirmed on Wednesday, but is expected to be in November.
In response to the bond market jitters, Downing Street stressed that it remained committed to its fiscal rules to have day-to-day spending met by tax revenues by 2029-30, and for debt to be falling as a share of the economy by this point.
The Chancellor has left herself only £9.9bn headroom against this pledge, which is thought to have already been wiped out. Estimates of how much she will need to raise to meet the pledge range from £20-£50bn.
Asked about the yield increase, the Prime Minister’s Official Spokesman said he “obviously wouldn’t comment on specific market movements” but added: “Our iron clad commitment to our robust fiscal rules remain.”
He went on: “Our fiscal strategy has been backed by the IMF and others and our approach has helped interest rates to be cut five times since the election.”
Analysts are generally agreed that the bond movements are a part of a European-wide pattern driven by a range of factors, such as doubts about the sustainability of countries’ financial plans.
However, some experts argue there are specific circumstances which have left the UK more vulnerable, such as the level of debt and stubborn inflation.
Neil Wilson, UK investor strategist at Saxo Markets, said that a mini-reshuffle by Sir Keir Starmer to move Darren Jones from chief secretary to the Treasury to a new position of chief secretary to the Prime Minister, might have played a part.
He said: “Gilt yields in the UK rose after the Prime Minister reshuffled the deck, seemingly sidelining his iron Chancellor Reeves by poaching her deputy. If the Treasury won’t break the rules, then perhaps No 10 can?”
And Kathleen Brooks at XTB Research said a driver of weakness in the UK bond market could be a delayed reaction to the Government reshuffle on Monday.
“The Prime Minister beefed up his economic team in the lead-up to the budget. This has not gone down too well, with concerns that there is still a strategy void when it comes to the economy, as the Government struggles to deliver the growth that it promised,” she said.
Former Conservative Chancellor Lord Ken Clarke told the Financial times that the UK was “much nearer to the risk of a financial crisis than the government is remotely acknowledging”.
Labour MPs were split on the significance of the market movements. One backbencher told The i Paper that a range of other financial indicators were healthy and that it would only be a problem if the Budget was a “[Liz] Truss car crash, which it won’t be.”
However, another MP said: “People are understandably concerned that not only are tax rises coming, but counter-productive ones at that when it comes to growth.”
‘Frank conversations on welfare needed’
They added: “It is not immediately clear to me what areas of public spending the Parliamentary Labour Party will accept for restraint.
“Frank conversations will be required on things like welfare and public sector reform very soon.”
The appointment of Jones has been welcomed by many Labour MPs and seen as an attempt by Starmer to get more control over the Whitehall machine.
An MP in the 2024 intake said: “Darren Jones is a phenomenal move – someone who will declog the system and get things done.”
A Labour insider said: “Our system hasn’t mimicked what other countries have with a ‘department of the PM’ but it’s long past the time when we should… I assume Jones will be there to impose the politicians’ will on the civil service.”
However, the insider said that much of the Government’s problems to date had come down to the Prime Minister.
“One thing that’s important is that ultimately these problems are Keir,” they said.
“Yes you need the staff but they’re operating in a system he is responsible for making work. It’s like with Boris [Johnson] where the PM is totally mental and everyone blames the dastardly advisers. Keir might not be mad but it’s still not the advisers.
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“One of Keir’s pitches was that he knows how to run organisations. He needs to actually demonstrate that now.”
No10 has denied the appointment of Jones is a power grab, saying the move had been discussed with Reeves who supported it.
A spokesman said the move “reflects the strengthening of the relationship between the Prime Minister and the Chancellor, a determination to drive growth in the economy, a recommitment to our robust fiscal rules.”
The spokesman added that he told the Cabinet: “He and the Chancellor had spoken at length over the summer about how these changes would bolster their joint approach to the growth agenda and ensure it is a key factor when taking decisions.”
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