Reeves faces fiscal storm: prospects bleak for economy under Labor government, says ALEX BRUMMER

When it comes to travel plans for Chancellors mired in market turmoil, it’s about being caught between the devil and the deep blue sea.

If you stay in Britain, it will be an acknowledgment that the markets have their sights on you and have sniffed out weakness. If you go ahead with fulfilling commitments, you risk being in the wrong place and political and financial opponents may attack.

It will be difficult for Rachel Reeves to banish those thoughts as she travels to China this week.

Leaving aside the political, strategic and human rights aspects of a trip, which probably won’t be favored much at Mar-a-Lago, Reeves might want to think about the fate of his predecessors.

In 1976, before the current Chancellor of the Exchequer was born, a heavyweight Labor predecessor, Denis Healey, returned to Heathrow, en route to an International Monetary Fund meeting in Manila, as sterling sank in the markets.

More recently, under Reeves’ direct view, Kwasi Kwarteng was summoned back from Washington to London to be defenestrated after bond markets upset Truss-Kwarteng’s unaudited mini-budget.

The revolt against Rachel Reeves’ budget in October has been slow. An atmosphere of political crisis has been avoided, but it is largely in the ether.

The interest rate yield on government bonds (gold-edged stocks) has skyrocketed. At 4.8 percent, the ten-year bond yield is now higher than at the time of Truss’s disastrous tax cut budget in autumn 2022.

The 30-year bond yield at 5.35 percent is at its highest level since August 1998.

Truss’s mini-Budget unleashed a crisis for the British pensions industry, which had foolishly turned the UK’s supposedly safest investment into a complex derivative: liability-driven investments (LDIs).

Reeves’ £40bn tax collection budget and his further empowerment of the Office for Budget Responsibility (OBR) have caused a crisis in the public finances.

If bond yields stay this high for any length of time, Reeves will be close to violating his own fiscal rules within nine months of arriving at the Treasury.

The OBR’s forecasts could require it to raise taxes again or cut spending more deeply.

Reeves’ management of the economy is rapidly unraveling. Despite a large parliamentary majority, which was meant to buy stability, the grip of the economy, high taxes, changing fiscal rules and loss of growth momentum have put the UK in the crosshairs of the bond watchers.

Questions about US tariffs and higher-than-expected US interest rates have added to market dissonance.

Capital Economics estimates that higher-than-expected bond yields will virtually eliminate room for additional spending against the mandate to balance daily budgets by 2029-30.

The outlook worsens because much of the projected growth for 2025 appears to have dissipated after the economy stagnated in the second half of last year.

Reeves publicly committed to a single budget per year. But if you want to keep the OBR on your side, you may have to consider further tax rises or tighter spending deals with government departments.

Higher bond yields will also hurt ordinary workers and businesses due to the higher cost of fixed-rate mortgages and consumer and business loans.

So far, the Chancellor has been aided by good will in and out of town. The market revolt has not become a full-blown crisis dominating headlines and debate.

Much of the narrative has been hidden from view. The Conservatives were so battered by their electoral defeats and embarrassed by the economic instability during their tenure that they have found it difficult to dwell on the way in which the positive aspects of their economic legacy have been defeated.

Vibrant first-half growth, falling inflation and interest rates have been undone by a Budget that has weakened business confidence, stifled retail sales over the holiday period and made the likelihood of big cuts in spending less likely. bank rates this year.

Added to this is uncertainty about future relations with the United Kingdom’s largest trading partner, the United States.

Escaping the clutches of Trump’s tariffs and pressure to increase defense spending doesn’t make a bleak fiscal outlook any brighter.