The government’s borrowing costs have steadily climbed over the past few weeks as financial markets prepare for Labour’s first budget.
The yield on the benchmark 10-year Gilt, which reflects the cost of borrowing, has increased from just over 3.75 per cent in mid-September to around 4.2 per cent on Tuesday.
A yield is the annual return that an investor gets on a bond, expressed as a percentage of the bond’s value. When the price of a bond falls, the yield rises.
The increase in yields means that the spread between UK and German 10-year bond yields has climbed to its highest level since August 2023. The spread is a measure of the relative riskiness of an asset.
Analysts suggested that the increase was largely a result of concerns that Chancellor Rachel Reeves will ramp up borrowing in the budget to fund a major investment programme.
She has suggested she will tweak the fiscal rules to ensure that the framework “takes account of the benefits of investment, not just the costs.”
Depending on how Reeves adapts the rules, she could unlock nearly £60bn in extra spending. However, Reeves has stressed that the rules would still ensure fiscal sustainability.
“It’s about making prudent, sensible investments in the long term and we need guardrails around that,” she said. Further details of the new fiscal rules will only be confirmed in the budget.
“The Labour government may well want to change the debt rule to allow for more borrowing for investment. The bond market may not let them,” Neil Wilson, chief markets analyst at Finalto said.
But Wilson also suggested that markets were pricing in a slower pace of interest rate cuts in the UK than was expected in the eurozone, reflecting more persistent inflation.
A recent report from the Organisation for Economic Co-operation and Development (OECD) suggested that the UK would suffer from the highest inflation in the G7 both this year and next.
“It’s not just the threat of more borrowing; the Bank of England is seen cutting a bit more slowly than in Europe,” Wilson said.