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Government borrowing costs hit 11-year high

Government borrowing costs hit 11-year high as Liz Truss outlines her £150bn plan to cap the nation’s energy bills

Government borrowing costs hit an 11-year high yesterday as Prime Minister Liz Truss unveiled a cap in energy bills that could cost up to £150billion.

As financial markets reacted to the prospect of more debt to fund the emergency support package, the yield on ten-year gilts rose to 3.156 per cent.

That was the highest level since July 2011 and effectively showed that investors are demanding higher returns for lending to the Government.

Government debt: As financial markets reacted to the prospect of more debt to fund the emergency support package, the yield on ten-year gilts rose to 3.156%

The Government issues packages of debt known as bonds, or gilts, to raise money for spending not covered by taxation.

The latest rise in yields – or interest rates the Government pays to lenders who buy the bonds – followed market turbulence over the summer.

In August yields on ten-year bonds saw their biggest one-month rise since 1994.

Rates on 20- and 30-year bonds also climbed yesterday, hitting their highest levels since 2014.

A key factor is the outlook for inflation. The policy curbing energy price rises means inflation will be lower in coming months than previously thought.

But by leaving more money in consumers’ pockets, it could buoy inflation in the future.

That could persuade the Bank of England to hike interest rates further to try to keep a lid on prices. Higher interest rates mean bond investors demand higher yields.

NatWest Markets raised its forecast for Bank of England interest rates to hit 3.5 per cent by early next year and increased its target for ten-year yields to 4 per cent.

Ross Walker, a NatWest economist, said he was surprised yields had not risen more dramatically.

‘The widely reported figure of £150billion of extra borrowing in the next two years is a substantial increase,’ he said. ‘That is going to present challenges in terms of funding.’ Higher yields add billions to debt interest payments. 

The bond sell-off seen last month alone is expected to add £6billion to the deficit by 2026-27.

Those debt interest payments are already ballooning because some bonds are linked to inflation.

One recent forecast predicted they would hit £118billion in the current fiscal year.

The pound has also been on the slide amid recent uncertainty about government policy.

Sterling hit a 37-year low against the US dollar this week at just above $1.14. It enjoyed an immediate bounce after Truss’s energy policy announcement to more than $1.16 but later slipped back close to $1.15.

Paul Dales, chief UK economist at Capital Economics, said: ‘Overall, in recent days the financial markets have been adjusting to the combination of looser fiscal policy and tighter monetary policy. 

We’re not convinced that ten-year gilt yields will rise much further, but we do think that the pound will weaken from $1.15 now to $1.05 next year.’

It is not only bonds in the UK that have come under pressure.

Germany’s two-year bond yields rose to their highest level since 2011 yesterday after the European Central Bank’s unprecedented 0.75 percentage point interest rate hike. 

Ten-year German bonds also climbed, reacting to the ECB’s pledge to keep raising rates over the next few meetings.

£40bn to boost energy firms

The Treasury and the Bank of England have launched a £40billion scheme to help energy firms shore up their finances amid soaring wholesale prices.

The firms often sell power in advance but have to hold a ‘minimum margin’ to guard against price swings. That cost has surged as prices have spiralled, leaving businesses across Europe struggling.

Prime Minister Liz Truss said the £40billion scheme would ‘ensure that firms have the liquidity they need to manage price volatility’.

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