The pound fell below $ 1.10 for the first time since 1985 as investors became frightened at the prospect of increased government loans to pay for Kwasi Kwarteng’s sweeping tax cuts.
Delivering a punitive verdict on the chancellor’s “race to grow”, traders plunged the pound sterling in a large sell-off on Friday in response to the huge increase in public loans needed to fund its plans.
Analysts at US investment bank JPMorgan said the market reaction demonstrated “a wider loss of investor confidence in the government’s approach”, reflecting the damage to Britain’s position in global markets.
Citi analysts said the chancellor’s tax break, the largest since 1972, “risks a crisis of confidence in the pound.”
The pound fell two and a half cents against the dollar to a new 37-year low of $ 1.0993 as concerns about the future path of public finances also triggered a rise in government borrowing costs. The drop below the symbolic $ 1.10 threshold came after the chancellor announced £ 45 billion in tax cuts directed at the highest incomes.
The FTSE 100 fell more than 2% to be trading below 7,000 for the first time since the beginning of March, following the Russian invasion of Ukraine, while the cost of loans to the British government on international markets is increased the most in a single day for more than a decade.
Two-year UK government bond yields, which are inversely related to the value of bonds and rise as they fall, have jumped a whopping 0.4 percentage points to close to 4%, reaching the highest level since the financial crisis in the UK. 2008.
Borrowing charges on 10-year bonds rose more than 0.2 percentage points to trade close to 3.8%, continuing a dramatic rise in progress since Liz Truss took over as prime minister earlier this month. In early September, benchmark UK sovereign debt yields rose by nearly one percentage point, much more than comparable advanced economies.
“[It’s] It’s really hard to overstate the degree to which Kwarteng’s budget just destroyed the gilt market, “said Toby Nangle, a former fund manager at Columbia Threadneedle. Illustrating the magnitude of the turmoil, he said gilt yields at five years have moved more in a single day since 1993, overcoming the Covid pandemic, the 2008 financial crisis and 9/11.
Investors have warned that the UK experiment with Trussonomics comes at a difficult time with a US dollar on the rise, rising interest rates from global central banks and higher borrowing costs in advanced economies amid an environment of more economic growth. weak and soaring inflation.
However, they said Britain was singled out after years of the government damaging its reputation for sound economic management, exacerbated by the steps taken by the new prime minister.
Gabriele Foa, portfolio manager at Algebris Investments, said: “We are in a situation where the UK government has lost a lot of credibility over the past three or four years and has pushed the market’s patience in many ways.
“[It’s about] The management of Covid, the instability of the government, the management of Brexit. It’s just a big, let’s say, set of concerns. The UK was in the first league, [but] it is moving from the first, from the second to the third. If you give any sign that you are not reliable, you move the leagues ”.
It comes after the Treasury said it will fund Chancellor’s tax cuts and energy price guarantee for consumers and businesses with £ 72.4 billion in sales of UK public debt more than planned for. the current financial year.
Instead of the £ 161.7 billion projected by the Debt Management Office in April, the Treasury said it will now sell £ 234.1 billion of government bonds to international investors in 2022-23.
The change will mean that investors will be brought closer to buy significantly more government debt than previously anticipated and adds to the Bank of England preparing to sell £ 80bn of gilts held on its balance sheet thanks to its quantitative easing program. .
Markets are betting that the Bank would be forced by Kwarteng’s support regimes to raise interest rates above 5% by May next year – more than double the current rate of 2.25% – with the expectation that they would add significantly to inflationary pressures.
Vivek Paul, BlackRock’s senior portfolio strategist, said: “UK credibility is what the markets are reacting to.
“In time we will know if there will be a fundamental change. The jury is out [but] the initial reaction of the markets is not a resounding approval. Let’s put it this way “.
The moves come as the Bank responds to the surge in inflation by raising interest rates, despite the warning that the UK economy is already in recession.
Antoine Bouvet, a senior interest rate strategist, and Chris Turner, the global head of markets at Dutch bank ING, said conditions amount to a “perfect storm” for the UK as global markets avoid sterling and gilts.
“The price action in UK gilts is going from bad to worse. A daunting list of challenges has arisen for sterling-denominated bond investors and the Treasury mini-budget has done little to bolster confidence. “