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A little bit of luck goes a long way in markets and in politics, and the UK’s new prime minister-in-waiting, Andy Burnham, could catch a whiff of it, preparing to take the hot seat just as UK government bonds, in the words of his beloved Stone Roses, wanna be adored.
The so-called king of the north has had what we can generously call a rocky relationship with investors, famously declaring in September that he did not wish to be “in hock to the bond markets”.
Since then, Burnham has made soothing noises about fiscal rectitude and borrowing restraint, with mixed results. It is safe to say bond investors are still sceptical.
“Bond markets . . . struggle to tolerate the perception that credibility is being sacrificed faster than the numbers can improve — and that test, for this government, lies ahead,” said Laura Cooper, a strategist at investment house Nuveen. A “clean” succession to a new PM and a chancellor who is seen as “a fiscal continuity pick” are essential if gilt yields are to close the gap with their US counterparts, she added.
Still, it is a common mistake to read too much into the fact that Burnham’s political ascendancy from mayor of Greater Manchester, back to parliament and to a holding pen for the PM’s job coincided with a nasty rise in UK government borrowing costs. The political drama certainly didn’t help here, but ignore the wild-eyed polemics about bond investors recoiling from this change of personnel in Number 10. The bulk of the problem was never Burnham. It was the war in Iran.
Bond prices started to fall, shoving up borrowing costs, right at the beginning of March, after the bombs started hitting in the Middle East. This was a global phenomenon. The war constrained oil supplies, energy prices rocketed and bonds’ mortal enemy — inflation pressures — reignited.
The UK is rather more sensitive to inflation pressures than other big economies, and its bond market, which is fairly small by global standards, is routinely somewhat more volatile than, say, US Treasuries. It has always been bashed around by global forces.
This is problematic for any prime minister. High borrowing costs represent a serious strain on UK public finances and it’s unhelpful that neither the government of the day nor the Bank of England can fully mitigate those pressures, but can make them worse. Still, this is the reality, and it helped to paint the impression that bond investors are somehow violently allergic to Burnham.
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Now, though, the global bond market gods are smiling. This past week, which kicked off with Sir Keir Starmer’s resignation, has coincided with a reasonably chunky fall in benchmark borrowing costs, sending 10-year yields sliding by 0.15 percentage points from the end of the previous week. It’s not dramatic, but it’s not nothing, and a yield of 4.7 per cent, which is what we have now, is much easier to live with than the peak last month, which was 5.2 per cent.
Again, this is not really down to Burnham. Instead it is because, as far as market participants are concerned, the war in Iran is old news. Of course, the Strait of Hormuz is still not fully open, and the terms of the peace deal between Iran and the US remain shaky. But, forward-looking as always, investors have moved on. The oil price has collapsed down towards $70 a barrel, leaving that awkward period above $100 in the past, bond yields globally are edging back down, and the need for the Bank of England to jack up interest rates multiple times this year, which had been seen as a serious possibility, is fading away.
Some additional help has come from the US, where new Federal Reserve chair Kevin Warsh has taken a tough early line on inflation and suggested he might be willing to raise interest rates to tackle it. In a normal world, that would pull bond yields higher. This time, though, the signal that Warsh is willing to defy the rate-cutting impulses of President Donald Trump helps, tentatively, to restore investors’ faith in US institutional credibility, bolstering bond prices in the process.
Some investors tell me that just as gilts suffered marginally more than other government bonds in the global market weakening earlier this year, they may stand to benefit more than others on the way back up. UK yields are very generous compared with other developed economies and there’s simply no plausible scenario where the country will fail to pay bondholders back what it owes — again, shrill warnings that the UK will need a bailout from the IMF are for the birds.
It is absolutely in Burnham’s gift here to squander this opportunity, and investors remain nervous that he, and whoever becomes his chancellor, could embark on borrowing and spending on a scale that wafts bond yields higher again. Robust economic growth (remember that?) really is the only true solution to the country’s massive debt burden, and numerous previous prime ministers have struggled to find the one neat trick to make that happen, particularly in the decade since the Brexit vote.
Still, global bond markets are past the worst. If this continues, it will make life a lot easier for Burnham in the early stages of the new job that the country expects him to get.
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