Introduction: Hunt brings forward fiscal announcements to calm markets
Good morning, and welcome to our rolling coverage of business, the world economy and the financial markets.
The financial markets will give their verdict on Liz Truss’s government today as the PM clings onto power in the face of growing pressure to quit.
And in an attempt to reassure investors about Britain’s financial stability, new chancellor Jeremy Hunt is to announce some tax and spending plans today – the latest in a series of u-turns from the government.
In a surprise move, the Treasury has announced that the Chancellor will make a statement later today, which will “bring forward measures from the Medium-Term Fiscal Plan that will support fiscal sustainability”.
Hunt will also give a statement to parliament on the plan.
By announcing these tax and spending measures a fortnight earlier than expected, Hunt is trying to reassure jittery markets and turn around a loss of confidence in the government’s fiscal plans.
Over the weekend, Hunt unceremoniously chucked Truss and Kwarteng’s disastrous mini-budget under the bus.
Instead of unfunded tax cuts to spur growth, Hunt warned that some taxes will rise and spending will be squeezed in an attempt to persuade international investors Britain is a reliable, responsible country.
Not the easiest task, given the hammering which recent events have dealt to confidence.
With the plan to cut corporation tax already scrapped, Hunt could delay plans to cut a penny off income tax by a year, or demand even more ‘efficiency savings’ from government departments, despite there being little to trim in, say, health or education.
The medium-term fiscal plan, to show how the UK plans to balance the books, is scheduled for 31 October, when we’ll also get the Office for Budget Responsibility’s forecasts.
While the chancellor tries to calm nerves, the government bond market no longer has the safety net provided by the Bank of England. Its emergency pledge to buy up long-dated gilts ended on Friday afternoon, as planned, after giving pension funds the opportunity to extricate themselves from the ‘doom loop’ of falling bond prices after the mini-budget.
UK gilts will resume trading at 8am this morning, when the London stock market also opens. If borrowing costs push higher, it could intensify calls for more change in Downing Street, or even spur the BoE into fresh action.
Analysts have warned that we could face another week of turbulent markets.
UK assets have been badly hit by the British government’s loss of credibility, as we saw on Friday afternoon.
Bond prices had been recovering on Friday morning, but lurched lower after Truss’s unimpressive press conference – announcing the exit of Kwasi Kwarteng – didn’t offer much reassurance of how the UK’s fiscal black hole – thought to exceed £70bn – will be filled.
And in Westminster, the beleaguered prime minister will attempt to shore up her crumbling support by gathering her cabinet ministers at No 10 tonight.
But some MPs went public yesterday calling Truss to quit, including backbencher Jamie Wallis — who has confirmed to the Guardian that he had submitted a no confidence letter — and veteran Tory MP Crispin Blunt.
8am BST: China publishes FDI (foreign direct investment) figures for September
9am BST: Italian inflation rate for September
11am BST: Jeremy Hunt expected to announce tax and spending plans
11am BST: German Bundesbank’s monthly report
1.30pm BST: Empire State manufacturing survey of New York factories
There’s speculation that Jeremy Hunt could adjust the government’s energy price cap.
The new chancellor could make the freeze (on the unit cost of energy) more targeted next year, rather than working as a blanket cap for two years. This would lower the cost of the intervention.
Here’s Harry Cole of The Sun:
And Steven Swinford of The Times:
UK bonds are rallying even more strongly ahead of Jeremy Hunt’s announcement of new measures to support fiscal sustainability.
Two-year, 1o-year and 30-year UK bonds have all jumped higher in price, pushing the yield (effectively the interest rate) on these debts lower.
The 30-year gilt is now yielding 4.43%, down from 4.77% on Friday night – that would be a really dramatic fall in long-term debt in normal times.
But it still leaves borrowing costs significantly higher than before the mini-budget (when 30-year bonds yielded 3.5%).
The damage caused to the UK’s credibility in the markets won’t be fixed easily.
Even once Jeremy Hunt has announced further U-turns on Liz Truss’s tax plans today, rebuilding investor confidence will be hard, warns Neil Wilson of Markets.com.
Wilson fears the market ‘seems to have lost faith’ in the UK. Conducting a series of u-turns, under pressure from bond traders, merely makes the government look weak.
Whilst the initial reaction seems to be positive so far this morning, I would question whether credibility can be restored all that quickly – investors don’t want uncertainty – and I would have a general working assumption that the market will seek to test resolve again by pressing on the gilt market.
In a world of declining liquidity and a loss of confidence in institutions, markets tend to seek to inflict maximum pain to the greatest number of market participants.
Even if the government does roll back all measures in the mini-Budget that spooked investors, the market seems to have lost faith and you won’t now get it back easily – completely rowing back every measure makes you look weak and incompetent…rather than headstrong and incompetent.
Wilson adds that there are no good options for Liz Truss. And the underlying economic problems that are weighing on the pound remain – namely inflation, the twin deficits (budget and current account), and weak productivity.
Cutting governent spending and lifting taxes may calm the markets, but it will also push the UK into a deeper downturn.
Kit Juckes, currency expert at French bank Société Générale, says that once the market volatility has receded, we’ll be left with “recession, austerity, higher rates and a lingering sense that this sterling crisis, more than its predecessors, was homemade and avoidable”.
Jeremy Hunt will give a statement on fiscal policy at 11 am, before speaking to Parliament this afternoon. He hopes to deliver a clear message that stabilises the gilt market and restores confidence. The measures will include spending cuts and tax increases, which will deepen the economic downturn. That should result in lower gilt yields and a lower peak in policy rates than markets currently discount (implausibly, above 5%).
More importantly perhaps, lower rates (along the length of the curve) would result in lower debt interest costs and improve the OBRs assessment of the long-term outlook. Let’s hope he doesn’t disappoint.
Newsnight’s Ben Chu has a handy chart showing how 30-year bond prices have jumped this morning as Jeremy Hunt prepares to ditch more measures from the mini-budget.
Other government bond prices are also rallying today, but not as strongly as the UK.
For example, US 10-year Treasury bonds have strengthened, pulling down their yield by just 4.5 basis points – while UK 10-year gilts yields are 25 basis points lower.
That further shows that it was domestic factors that hammered UK asset prices and pushed up borrowing costs, not merely international pressures as ministers had tried to claim.
This has narrowed the gap between UK and US government bond prices (and thus the spread in the yield between the two securities).
Before the mini-budget, US government debt traded at a higher yield (reflecting the fact that American interest rates had been raised faster). But once the mini-budget sent gilts crashing, UK debt yielded more:
Analyst: Government has bought itself valuable time by tearing up mini-budget
The sigh of relief in Downing Street when the bond markets opened would have been audible “halfway down Horse Guards Parade”, says AJ Bell investment director Russ Mould.
The drop in borrrowing costs shows investors are reacting positively to new Chancellor Jeremy Hunt’s rescue mission, Mould explains:
“Gilt yields have fallen sharply, the pound is higher and unless Hunt stuffs up his early trailer of new fiscal measures, it seems the government has bought itself some breathing room with the financial markets.
This is particularly reassuring given the Bank of England has, officially at least, concluded its intervention in the gilt market.
“Longer term there are big questions about the impact of what looks like being hefty real-terms cuts to public services. However, in the short-term, Hunt, like a professional problem solver brought in to steady an ailing business, seems to have done what was required.
Even if it meant tearing up much of the mini-Budget and starting again.
The financial markets will want to see “clear evidence” that Jeremy Hunt is rolling back the unfunded tax cuts that caused the loss of confidence in the UK, explains Stephen Innes, managing partner at SPI Asset Management:
More broadly, the UK situation highlights the increasing divergence between governments and central banks, with the latter tightening to contain inflation at the expense of economic growth.
In contrast, governments respond to voter pressure to alleviate rising prices, typically through easing fiscal policy.
Meanwhile, UK Prime Minister Liz Truss’s time in office looks increasingly short as several Conservative MPs have openly called for her removal given her handling of the mini-budget culminating in a disastrous speech last Friday. The power most certainly lies with number 11 in the short term, although markets will want to see clear evidence of a rollback of unfunded tax cuts.
By calming the market today, Jeremy Hunt could succeed in reducing the estimated size of the fiscal black hole he needs to fill in the medium-term fiscal plan due on 31 October.
That’s because the Office for Budget Responsibility will use current borrowing costs, and interest rate forecasts, when assessing the UK’s economic outlook.
The unravelling of the mini-budget means UK interest rates may not rise quite as sharply as the markets had previously expected.
The money markets are now pricing in the Bank of England raises rates to around 5.25% by next May.
Earlier this month, rates were seen hitting 6% by next summer, with the Bank expected to tighten policy aggressively to cool inflation.
Rates are currently 2.25%, with the BoE signalling to expect a significant rise at its meeting next month.
As accountancy professor Lord Prem Sikka points out, higher rates will eat into mortgage-holders’ disposable income, push down prices, and create more financial distress: