Spare a thought for the Chancellor. She’s going through a tough time. The headlines at the moment are brutal. While Number 10 has now backed her to remain as Chancellor for the rest of the parliament, the fact that the question arose in the first place was an indication of how grim things are. She’s been described as ‘pale, drawn and tired’ by Tim Shipman at the Sunday Times. A comment piece in the usually Labour-leaning Independent says that ‘UK Plc wants rid of Rachel Reeves – and for good reason’. The Daily Star have resurrected their lettuce stunt, in anticipation that her political career may have a similar shelf life.
The root cause of this is the utterly abysmal, almost apocalyptic forecast for the economy. Gilt yields are steadily increasing, the pound is depreciating, business confidence is down, GDP growth is tanking, inflation is spiking, employment is slowing, debt servicing costs are growing. And the public are very quickly realising it’s her economic policy that is to blame.
Yet despite this, Reeves remains one of the luckiest politicians on earth. While the economy is heading towards an iceberg, she can see it coming, and she may just have time to avoid hitting it at full speed.
Why does she have time? Well, although gilt yields are spiking to levels above that of Liz Truss, Reeves isn’t enduring the cascade of catastrophes that the former Prime Minister suffered. The fire sale of UK government bonds that we saw then led to pension funds up and down the country wobbling due to their highly over-leveraged and therefore highly vulnerable positions. The use by pension funds of liability-driven investments meant that as gilt yields spiked, they were hit with margin calls which threatened to bankrupt them, forcing them to liquidate their cash holdings of gilts and thereby further fuelling the market sell-off in what rapidly became a doom spiral.
There are other differences between then and now, of course. While there have been significant sales of UK gilts in recent weeks, they don’t quite compare in speed and scale to the gilt sell-off under Truss. In those heady days, we saw a spike of 30 basis points (0.3%) on 30 year gilts on the day of the mini-Budget followed by an additional 50 basis points (0.5%) just days later. By contrast, the current sell off has been more gradual. Ministers have also not so flagrantly tried to fan the flames as in 2022, when the Chancellor said ‘there is more to come’ in reference to the Government’s economic policy which combined tax cuts with a spending spree the likes of which we’d never seen, namely the effective partial nationalisation of household energy bills.
But the potentially more significant difference is that as a result of the mini-Budget, the Bank of England finally cottoned onto the status of pension funds and their liability driven investment funds and along with the UK’s pension regulators took steps to address the issue and limit future risks.
Now even without the Truss mini-Budget, the Bank of England may have woken up to the fact that the UK’s pension funds were teetering on the edge of a precipice, so vulnerable to changing gilt yields that a temporary spike would send them tumbling like dominoes. Maybe even if they hadn’t, the slower scale of the sell off would have meant the worst case scenario would have been avoided. The alternative though is that, in a world where Liz Truss hadn’t got there first, the spike in gilt yields driven by Reeves’ disastrous and destructive Budget would be threatening the imminent collapse of the UK’s pension funds, and undoubtedly the immediate dismissal of the Chancellor and the unravelling of her economic agenda.
As it is, Reeves does have an opportunity to rectify her mistakes. Reversing the tax rises and instead focusing her fiscal measures on spending reductions is the obvious solution and one which would tick the boxes of fiscal responsibility and growth that she claims to place at the heart of her economic strategy. It would reverse the massive transfer of resources from the productive part of the economy, the private sector, to the unproductive part of the economy, the public sector. It would require the courage to stand up to the powerful lobby groups that hold Labour by the throat, particularly the unions. It would require her colleagues to take seriously the challenge of governing which means accepting the fact that they have limited resources even if they have unlimited ambitions.
These are all hopelessly unrealistic suggestions of course. But it is probably the only option Reeves has if she wants to change course and avoid the iceberg. At least that option is still open to her. For that, she may have Liz Truss to thank. She may find it politically comforting to refer to the ‘disastrous mini-Budget’, but it may be because of the issues revealed then that her own disastrous Budget hasn’t blown up quite so spectacularly.
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