Britain’s new finance minister, Jeremy Hunt, reversed the majority of Prime Minister Liz Truss’s unfunded tax cuts, sparking a rally in battered UK assets.
However, UK borrowing costs and mortgage rates remain significantly higher than they were prior to the plan’s announcement on September 23, and the value of London’s blue-chip FTSE stock index has been reduced by 80 billion pounds ($91.22 billion).
With the economy still paying the price for the now-cancelled plan, we look at some of the major market pain points.
Sterling, already under pressure from a strong dollar, fell further after Truss unveiled the plans in a “mini-budget” on Sept. 23 and hit a record low near $1.03.
It is now just above levels seen prior to the announcement of the growth plan, around $1.13, but analysts say a bleak economic outlook limits further gains. The pound has also fallen 16 per cent this year, making it one of the worst performing major currencies. This is bad news for consumers because a weak currency raises the cost of imported goods, putting pressure on the Bank of England to keep raising interest rates to keep inflation under control, which is currently at nearly 10 per cent.
The amount of borrowing required to fund Truss’ tax cuts, combined with the enormous cost of a price cap on energy – originally 72 billion pounds over the next six months – sent UK government bond yields, a proxy for borrowing costs, to their highest levels since 2008.
While they have fallen significantly, Britain’s 10-year yield is still 45 basis points higher than it was before September 23rd, and 30-year yields are 55 basis points higher.
This demonstrates that, despite Truss’ economic policy reversal, investors continue to demand a higher premium for holding British government debt.
Bond yields in the United Kingdom have also risen more than those in Germany, which has recently announced massive spending to control energy prices.
UK 30-year yields have risen 196 basis points since the beginning of August, while German yields have risen 121 basis points.
Borrowing costs for businesses have risen even more sharply. According to a BofA index tracking investment-grade debt, yields on sterling corporate debt have risen 120 basis points since the tax relief was announced, to 6.84% as of Friday.
Junk bonds, which are used by private equity firms to fund leveraged buyouts, have performed even worse, with yields remaining at 11.7% as of Friday, compared to 9.8 per cent prior to Sept. 23.
Moody’s said the turmoil in Britain’s government bond markets “threaten[ed] financial stability,” putting pressure on a wide range of financial institutions, from pension funds to banks and other lenders.
The growth plan threw Britain’s mortgage market into disarray, as the money markets on which lenders rely to price home loans bet on higher interest rates.
Because of the volatility, lenders pulled around 1,700 mortgage products in a week, accounting for 40 per cent of the market, before reintroducing them at higher prices.
Despite the return of some calm, the number of products is still 800 lower, and fixed-rate mortgage rates remain above 6 per cent – the highest since 2008 – compared to around 4.75 per cent before the budget, according to data provider Moneyfacts.
A think-tank said on Saturday that one in every five families will suffer financial consequences from having to pay more for their mortgages between now and 2024, with about a quarter of the increase caused by recent market turmoil.
Blue-chip stocks in the United Kingdom are still trading 3 per cent lower than they were before Truss’ plan.
The FTSE-100 has lost approximately 80 billion pounds in market value, while mid-cap stocks, which are more sensitive to the underlying economy, are down 5 per cent.
(Adapted from Reuters.com)