UK bond yields soar as budget rise | clauses

British Prime Minister Rachel Reeves delivered the new Labor government's budget, and if she was expecting a positive response from the financial markets, that hasn't been the case so far.

UK bond yields initially fell as the Prime Minister spoke, and markets liked Reeves' confirmation that tax hikes would raise £40bn a year, or 1.5% of GDP. This is a large figure by any comparison and far more than Labor promised to raise during the general election. Investors have also warmed to Reeves' commitment to balancing the current budget (daily spending and taxes), first within five years and later over three years.

But as soon as the Prime Minister finished his speech, the tide quickly began to turn. The yield on the 10-year Treasury note (gold bond) is up 4 basis points on the day and almost 15 basis points above its intraday low at the time of this writing.

Now that the full details are available, what immediately stands out is how much leverage is expected to grow over the next few years. The Independent Office for Budget Responsibility expects borrowing to rise by an average of £36 billion a year, or 1.3% of GDP, over the next five years. These are big numbers and we have seen that the updated Debt Management Office gilt transfer will result in a significant increase in bond issuance.

This may seem surprising, considering the scale of the tax increase. But crucially, not all of the promised additional tax revenue of £40 billion a year will arrive immediately. In fact, the OBR estimates that only £25 billion will be seen in the next financial year, most of which will come from increases in employer national insurance (social security). Numerous other monetization programs will take more time to fully appear.

Tax increases may be gradual, but the resulting spending increases are not. OBR figures show daily spending will rise by £41 billion next year compared to previous plans. In fact, this is an 8% increase in spending over two fiscal years. Capital spending will rise by £18 billion next year as well.

We have been arguing for some time that the government has no choice but to increase real spending. But what was delivered was undoubtedly higher than many had expected just a few weeks ago.

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