Yesterday whilst Labour MPs were plotting and most of us were wrestling with ungritted pavements and side roads, interest rates rose again in the government bond market.They rose because markets do not believe the government is getting a grip on its borrowing and finances. They rose despite the Bank of England continuing with low short term interest rates, with bond buying and money printing. The government should be alarmed.
I wanred on this site some months ago that interest rates were likely to go up. I said I did not think people and institutions would go on lending to the government at 2-3%. They won’t. At yesterday’s prices the government has to pay 4% to borrow money for 10 years, and 4.5% to borrow money for 20 years. The old bonds issued that have no repayment date now offer more than 5%. That’s big moves – large falls in government bond prices, big increases in the interest rates.
Why does this matter? it matters because it means we taxpayers will now have to pay a lot more interest. We will pay more interest on the near £200 billion of new borrowing this government is doing each year. We will pay more interest on the old borrowing that falls for renewal. Each 1% increase in interest rates costs us an extra £2 billion a year interest, a sum which escalates as more borrowing falls due for renewal and as more borrowing is taken out. That’s money we either have to pay in extra taxes, or money that has to come from additional spending cuts. Mr Brown used to be hot on the need to cut the interest bill of government, when he was in opposition. It is a pity he has forgotten that wise proposition now he is in office.
January 7, 2010
John
As you say, this can only go one way, up. Add the effects of compound interest, and you're talking serious money. We now seem to have de facto downgrading of our debt. The main questions are:
How long can we go on like this, without a Plan for debt reduction from the Government?
When will the Tories explain in words of 2 syllables the true impact on our future lives of delaying action to cut costs?
It would be interesting to hear from you the impact of a gilts strike. Can the BOE just continue to sell gilts with higher and higher yields? Or will they sell only index-linked Gilts to hide the problem? How soon before this impacts on Joe Public's mortgage?
Reply: A gilts strike drives up interest rates. There is one at the moment, disguised by the Bank's own purchases. Long interest rates can go a lot higher than 4.5%. In the 1970s when a Labour government faced a gilts strike they ended up offering 15% for the money! There was still a sterling crash and a trip to the IMF as well, resulting in spending cuts.
January 7, 2010
The first investment I made for myself out of my own earnings was in Treasury 15 1/2% 1996 which I bought at par when it was issued. The capital gain I made as interest rates fell back meant I could afford my first car. I think it was clear that it couldn't go on like that, to coin a phrase.
I haven't had the patience to work out how much money has been lost on the BoE's QE investment in gilts just recently (I reported the overnight loss of £1.96 billion when interest rates moved sharply higher a couple of months ago). As interest rates move higher, BoE losses will escalate in the same way as I profited when they fell. That will also apply to the mortgage backed securities they have taken on. I can sense a parliamentary question coming on – and also a policy conundrum that will face the next government's Treasury team: what to do about the BoE's losses and loss making portfolios built up under the "special facility" and QE.
reply: Indeed – they could be large relative to the Bank's capital, and the Bank has a very stretched balance sheet. The good old taxpayer will doubtless come to the rescue.
January 7, 2010
I wonder just how long we can carry on in this manner.I believe a full blown financial crisis will arrive before the election.
January 7, 2010
Ken,
I agree and still wait, in vain, to hear strong leadership from the Conservatives about how they are going to tackle this colossal debt problem by cutting public spending. I think that political leaders will be happy if the markets do intervene and force them to act and they can blame someone else for "the difficult choices" they have to make.
January 7, 2010
But what about Bayonce Slagg, mother of fifteen children by different "fathers"? What about Andy Capp, whose grandchildren are now following in the family footsteps and joining the dole queue? What about Mr Earnest Helpmate who works for the Council as Efficiency Control Officer (£65,000 p.a.)? What about Ms Elaine Stockings who is Head of the Local NHS Patients' Charter Quango (£100,000 p.a.)
None of these – and in places there are a LOT of such people – will vote for Christmas (like turkeys) will they.
January 7, 2010
I know 4% looks bad, but will the Government be THAT bothered? If inflation is 2% and rising, they will probably think the 'real' interest is only 2%. And when the hidden inflationary consequences of QE percolate through, then the Government will probably think that 4% was a bargain!
January 7, 2010
Perhaps DC and GO should be making some capital out of this, as this is the very reason we need to start to tackle the debt now, not in 2 or 3 years time.
If you max out your credit card you need to start repayments as soon as possible if not straight away and not delay, otherwise the debt soon multiplies out of control, and out of reach. So you pay more for longer to pay it off.
This very simple example seems to escape those in control and those in opposition, and is one most Voters could relate to.
January 7, 2010
When will they start paying this amount of interest on investments available to the general public such as National Savings and Premium Bonds?
January 7, 2010
We have a political class so weak that they fail every test of due diligence. We really do need change, big time. How? One of the major parties needs to be gone. Labour is the one on the gallows right now. Their demise should put the fear of God into our politicos and help transform democracy into the fairer world it should be. The will of the people would give us capital punishment, an end to economic immigratition and the dismantling of the corrupt and despicable EU State.
January 7, 2010
The bond market rates also points the direction for interest rates we will pay on our mortgages. Simply put, the bond market expects the Bank of England base rate to go up quickly and go up high. Without corrective action we could be facing double digit interest rates sooner rather than latter.
We will start to see these interest rate rise once QE stops. I expect QE to continue right up to the election
January 7, 2010
The thing that has always surprised me is how slowly events move on occasion. Look how we have drifted into insolvency! And now we have the plain stupidity to castigate Iceland when we are next in the queue! All it needs is for the RBS or HBoS (or indeed any other bank) to go belly up and – bingo! it is us in the snow with the Icelanders and HM the Queen begging China to be nice and let us off……
Mr Brown has a LOT to be guilty about. But yesterday Mr Straw insisted that the "global crisis" was "not his fault" any more than climate change was!
January 7, 2010
I'm not sure what the breakeven inflation rates are on benchmark index linked gilts, but does it imply the the government is planning on raising the inflation target upward? Anyone think the government will announce a 3% target?
January 7, 2010
Are you so sure interest rates will rise? Should they in fact do so, then the price of liquidating debt for companies so minded will fall, debt will be liquidated, and the early signs of inflation will evaporate.
The underlying rate of inflation is driven by the willingness of the private sector to expand credit. There is no indication that this will follow the end of qe, or the end of deficit spending.
January 7, 2010
There are some members of the Labour cabinet and party who do not like this trend any more than the rest of us do – hence (I believe) the attempted 'coup'.
January 7, 2010
Lindsay
Remember there will be some bonus balls to be had by Hoon/Hewitt saying in a few months time "we tried to do something" when in reality there was never any hope. Call me a cynic but this was pure indulgence, not for the sake of the Country.
January 8, 2010
JimF
It may be that, with me, the wish is father to the thought. I still find it incredibly hard to believe that a government will deliberately incur a deficit in 2010/11 that is almost identical to the one in 2009/10. As a father, I am outraged that anyone should want to hang a millstone of debt around my childrens' necks.
All their irresponsibility and stupidity is in vain. There is going to be a double dip recession. In terms of the key negative indicator, the maximum number of unemployed, failure to deal with the deficit will merely postpone the day it is reached – and also postpone the recovery.
January 7, 2010
Economists and politicians could have hours of fun looking at how much money the Brown years will have cost Britain. His 'buy now, pay later' approach means we taxpayers are going to have to pay for his folly for years to come. All money that could be productively used that is wasted in taxes paying interest bills.
January 7, 2010
It just proves that we need to look at moving most QUANGOS responsibilities to local government,to reduce the public sector payroll to 1997 levels,to make public sector pensions far less generous and to perhaps freeze public sector pay for a year or two.We need to slash this client state down to size to get the deficit down- that should lay the foundations for a lasting recovery as the Irish did in the 1980's and indeed as they are doing now.Also taking action should make our national fiscal situation more credible and thus stop these debt interest rates from rising.
January 8, 2010
Mr Redwood. My memory is hazy. Was there a time when the BoE set interest rates and the market's followed? The gilt rate was impacted by expectations of future rates. I believe it is unprecedented for a the market rate to be 4% more than the Base Rate for more than a few minutes, let alone many months.
Reply: Longer rates often are higher than the short rate set by the Bank. You are right, however, in thinking that the Bank no longer controls the main rates that matter to people and businesses. Who can lend or borrow at around 0.5%? Not even the government for most time periods, and certainly not the rest of us. It is all unrealistic.
January 8, 2010
Only the banks can borrow at those artificial rates: they borrow from you and me, and from the BoE. There is a "don't upset the applecart" market in Treasury Bills of short duration with similar low yields, but in reality the banks are big net borrowers at the short end, and real government debt is piling up unsold in the supergiant shelf issue known as QE.