Investing.com – UK government bonds, known as gilts, have sold off dramatically over the last week, pushing the associated yields to their highest levels since 2008 and heaping the pressure on the new Labour government as it seeks to stimulate the moribund UK economy.
Benchmark 10-year yields have climbed as high as 4.9135%, up 8 basis points on the day, and soaring to levels not seen since August 2008.
British government bond yields have climbed steadily since September, reflecting reduced expectations of Bank of England rate cuts, extra borrowing in the new government’s Oct. 30 budget and higher US Treasury yields as President-elect Donald Trump is expected to pursue a loose fiscal policy and raise tariffs.
While yields are also rising in other major economies, like the US, France and Germany, the UK appears to be at the forefront of the move.
These higher yields are likely to prove a headache for UK chancellor Rachel Reeves, as the additional cost of servicing the country’s debt may mean she overshoots her medium-term borrowing targets when she updates the forecasts on March 26.
“We estimate that the rise in yields to date leaves the government with marginally negative fiscal headroom against its deficit rule,” said analysts at Goldman Sachs, in a note.
“Any further rise in yields and any OBR growth downgrade on March 26 from here would push headroom further into negative territory. While the government does not necessarily need to act quickly in response to the OBR update, a continued sell-off in gilt yields would raise pressure for corrective fiscal action.”
Additionally, the higher yields are likely to act as an additional headwind to growth via household remortgaging and weaker investment.
“The rise in gilt yields reinforces our view that UK growth will disappoint in 2025, with our 0.9% real GDP growth forecast notably below consensus (1.4%), the BoE (1.5%) and the OBR (2%),” Goldman Sachs added.
That said, higher long-term interest rates that weigh on the growth outlook would call for more (rather than fewer) BoE rate cuts, all else equal.
“A 25bp Bank Rate cut in February remains likely despite the gilt selloff,” Goldman added, “unless next week’s wage and inflation data surprise materially to the upside. Thereafter we still see continued quarterly cuts through the year as economic activity disappoints.”
