While the prospect of a central bank-engineered global recession is focusing the minds of policymakers, it is the fragility of financial markets that may represent the greatest threat to growth — and the real concern for politicians such as Treasurer Jim Chalmers charged with plotting a safe fiscal course.
The UK financial system again nearly collapsed overnight, in the persistent fallout from the Truss-Kwarteng disaster, prompting another major intervention by the Bank of England (BOE).
The cause was another spike in bond yields for UK government debt, which blindsided markets and regulators. The BOE was forced to double its potential support buying to a massive £10 billion a day to try to correct what it said was “dysfunction” in the markets. In doing so, the bank warned — for the second time in 13 days — of “material risk to the UK’s financial stability”. It said there was “the prospect of self-reinforcing ‘fire sale’ dynamics [that] pose a material risk to UK financial stability”.
The BOE’s bond-buying program, announced after the Truss government’s disastrous fiscal package and intended to end this Friday, had initially calmed markets, and the bank was actually spending only a fraction of its self-imposed £5 billion a day buying of UK government bonds to protect UK pension funds. Suddenly it had to announce it was doubling its firepower.
The “dysfunction” was the sudden emergence of investor unwillingness to hold UK debt of any type or duration, especially UK government debt — a loss of confidence in the creditworthiness of the UK government and its financial soundness.
The immediate cause of the BOE intervention was a remarkable spike in the yield on the benchmark 30-year gilt (UK government bond), which jumped 0.317 percentage points to end at 4.697% on Monday, the highest since yields exploded after the fiscal package. With UK pension funds struggling to find buyers for the gilts they needed to sell, both pensions and the wider British credit system were in danger.
But the deeper cause is a near-complete loss of faith in the Truss government, which urgently needs to provide markets with a credible plan to rein in its debt. It was confirmation by Chancellor Kwasi Kwarteng that he was bringing forward his budget from late November to the end of this month that seemed to trigger the panic.
The problem is, any spending cuts are going to send the UK into political chaos, and Truss is wedded to tens of billions in tax cuts even after ditching those for high-income earners.
While the Truss government is spectacularly bad by any standards, the lack of market confidence in UK debt is a serious moment for the global financial system — and holds real implications for Australia.
The latest International Monetary Fund Global Financial Stability report, coincidentally out overnight, spells out some of these dangers.
“Global financial conditions have tightened notably this year, leading to capital outflows from many emerging and frontier market economies with weaker macroeconomic fundamentals. Amid heightened economic and geopolitical uncertainties, investors have aggressively pulled back from risk-taking in September. With conditions worsening in recent weeks, key gauges of systemic risk, such as higher dollar funding costs and counterparty credit spreads, have risen. There is a risk of a disorderly tightening of financial conditions that may be amplified by vulnerabilities built over the years.”
A disorderly tightening is code for a major credit crisis that seizes financial markets and brings the real economy to a quick halt because lending — for housing and for businesses, and even for governments, except at much higher rates — stops, as we came within a whisker of in 2008.
As we’ve previously noted, Australia is in a significantly better debt position than the UK — just a quarter of GDP in borrowings, not 100%. Markets have confidence in the new government of Anthony Albanese and Jim Chalmers. And by virtue of Australia being an energy exporter, our federal budget is being showered with revenue.
But when markets are this worried, and levels of trust are this low, any government other than the US is one fiscal disaster away from what has been unfolding in the UK.
A key goal of the budget in a fortnight will now be to offer a convincing fiscal story to markets that assures them Australian government debt — triple-A rated thanks to Wayne Swan more than a decade ago — remains a safe investment because policymakers have got things under control.
The core problem is not just ideology and refusal to listen to evidence but the compounding of stupidities – austerity, Brexit and now tax cuts / more austerity.
It’s the fact the Tories have been getting away with it since Thatcher via a corrupt electoral system, highly partisan media and residual class system infecting an overly centralised state apparatus.
In another parallel UK there are still positives – particularly the cultural integration found in most large (often Labour voting) cities.
But without proper representation about 25% of eligible voters get to elect Tory governments over and over again. The escalating corruption and delusion are just the consequence of “getting away with it” long term.
Read an article in Guardian UK last weekend. Journalist who had been to the Tory conference in Birmingham went on to the west midlands (Worcester, I think) to interview people about their views. Spoke to a pharmacy assistant in Boots who longed for the return of Boris —- because he was funny.
From this distance Johnson and Brexit appear to be the disasters that came before, and led to, the current Truss-Kwarteng chaos. Truss has been PM for 36 days and the UK financial system has twice come close to collapse in the last 21 days. And no-one is tipping a Tory drubbing at the next UK general election.
As you say – a compounding of stupidities
I put it down to the corrupt financial market of the City Of London. It has the same relationship to the UK government as does our extractive industry to ours. It reaches the point of total control so that a government can see very little else, and manufacturing and all the rest of importance dies on the branch. This leaves the country poised to collapse, like a house of cards. A one act circus doesn’t last long. Whereas mining does produce something which is required by others for trade, the City’s financial services can be done just as well in Boston or HongKong, and arguably with less corruption and rip-offs and in a Bojo and Truss-free area. We’ll be fine, of course, because we will always be China’s friend and they will always buy our funny red and black rocks; unless the US can find a way to put a stop to that little game and deal themselves in, trade-wise.
Of course you need to have been to the right school and have the right accent to enter this cosy club. The UK is saddled with a sclerotic class system. In contrast to Germany trades and manufacturing are looked down upon.
They are still a country of snobs or wannabe snobs.
My comment is “awaiting for approval”. Should that be “waiting for approval” or “awaiting approval”? Whatever. My comment contained nothing offensive, no swearing, no *s. And you’re no worse off for not reading it. Censored.
Yep. Awaiting approval is correct – no for needed.
That grammatical idiocy has only been pointed several hundred times in the last 5+yrs – the non response just another sign of how much the subscriber is respected.
As with fixing the madBot’s ludicrous algorithm which pounces on wicked letters hidden with normal words – zero.
Take the money and ignore legitimate complaints seems the business model.
You can safely assume that it will not be published; try different word combinations, synonyms etc. till accepted 🙂
All this talk about the stupidity of Trussonomics misses a more important point. Regulators have missed an enormous systemic risk. They should have forward seen this prospect. Shocking public servants running the prudential regulators in UK. Without that amended, nothing will work – be it good tax policy or bad tax policy … you just cannot have pension funds geared in what are supposed to be risk free assets
Abbott/Hockey and Morrison/Fryberg were almost as hopeless as Team Truss (Tomato). Like the hapless LNP 2013/2022 Truss is totally ideological and INCOMPETENT. Both Tories and LNP have elected a long list of duds, think Downer, Nelson, Sneddon, May, Boris. The Republicans gave us GW Bush and Trump. They distrust any sign of INTELLECTUAL depth.