The pound has continued to fall after UK government borrowing costs rose and concerns grew about public finances
Sterling dropped as UK 10-year borrowing costs surged to their highest level since the 2008 financial crisis when bank borrowing virtually ground to a halt.
Economists have warned the rising costs could lead to further tax rises or cuts to spending plans as the government tries to meet its self-imposed borrowing target.
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The UK economy is currently grappling with a series of financial challenges that have led to a significant fall in the value of the pound, soaring treasury yields, and high borrowing costs.
These developments have been largely influenced by the recent budget announced by Chancellor Rachel Reeves, which has sparked concerns among investors and economists alike.
Downward trajectory
The pound has been on a downward trajectory, recently hitting its lowest level since November 2023. Traders are betting on further declines, with some predicting the pound could fall as low as $1.12
This decline is partly due to the rising cost of government borrowing, which has surged to levels not seen since the 2008 financial crisis. The yield on 10-year gilts has climbed to 4.8%, while the yield on 30-year gilts has reached 5.34%, the highest in 27 years.
Recent UK budget
The recent budget has played a crucial role in these developments. Announced in October 2024, the budget included significant tax hikes and increased spending, leading to a substantial rise in government borrowing.
The budget deficit is expected to reach 4.5% of GDP this fiscal year, pushing the overall government debt close to 100% of GDP. This increase in borrowing has led to a higher supply of government debt, which in turn has driven down the price of bonds and pushed up yields.
Higher yields
Higher yields mean that the government has to pay more to borrow money, which has significant implications for its fiscal policy. The rising cost of servicing government debt could force the government to either raise taxes further or cut spending to meet its fiscal rules.
This situation is reminiscent of the market turmoil following Liz Truss’s mini budget in 2022, which also led to a sharp rise in borrowing costs and a fall in the value of the pound.
The impact of these developments extends beyond the government. Higher borrowing costs are likely to affect households and businesses as well.
Economic growth at risk
Mortgage rates, which are influenced by government bond yields, are expected to remain high, putting additional pressure on homeowners. Businesses, on the other hand, may face higher costs of borrowing, which could lead to reduced investment and slower economic growth.
The UK is facing a challenging economic environment characterized by a falling pound, high treasury yields, and rising borrowing costs.
The recent budget has exacerbated these issues, leading to increased government borrowing and higher debt levels. As the government navigates these challenges, it will need to carefully balance its fiscal policies to avoid further economic instability and ensure sustainable growth and not more ‘unfunded’ debt.