Rishi Sunak pays if BoE inflation bet goes awry

Sunak is trying to get a grip on public finances after pandemic lifelines to the economy boosted debt to nearly 98% of GDP, the highest since the early 1960s

  
Britain's Chancellor of the Exchequer Rishi Sunak attends a news conference with Britain's Prime Minister Boris Johnson and Britain's Health Secretary Sajid Javid (not pictured) in Downing Street, in London, Britain, September 7, 2021.

Britain's Chancellor of the Exchequer Rishi Sunak attends a news conference with Britain's Prime Minister Boris Johnson and Britain's Health Secretary Sajid Javid (not pictured) in Downing Street, in London, Britain, September 7, 2021.

Reuters/Toby Melville/Pool

(The author is a Reuters Breakingviews columnist. The opinions expressed are her own.)

LONDON - British finance minister Rishi Sunak will be on the hook if Bank of England Governor Andrew Bailey is wrong about the inflation outlook. Interest payments on UK government debt are already surging because of a jump in retail prices, to which inflation-linked gilts are pegged. It’s just a taster of the pain ahead if price pressures prove more stubborn than Bailey expects.

UK debt interest payments came to 6.3 billion pounds in August 2021, compared with 3.4 billion pounds a year earlier, the national statistics office said on Tuesday. A jump in retail prices, which are rising at their fastest annual pace since 2011, was largely to blame as this meant more interest was owed on inflation-linked bonds.

These so-called “linkers” account for nearly 24% of outstanding UK debt, a relatively high proportion. In the United States, for example, they only account for around 7% of Treasury securities that can be bought and sold in the open market. This is because Britain was one of the first developed countries to issue inflation-linked bonds and sells a lot of them to meet demand from institutional investors like pension funds.

Sunak is trying to get a grip on public finances after pandemic lifelines to the economy boosted debt to nearly 98% of GDP, the highest since the early 1960s. He can cope with a temporary inflation-related increase in debt interest payments but faces a trickier challenge if price pressures persist. The inflation-linked portion of such payments would stay higher for longer. And it would hasten monetary policy changes that push up the future cost of borrowing.

The Bank of England’s ultra-accommodative monetary policy has driven the average yield on conventional gilts to 0.75% at the end of June compared with 1.02% two years earlier. The Bank’s Monetary Policy Committee expects the consumer price measure of inflation to temporarily hit 4% before subsiding to 2.1% in the third quarter of 2023. Yet a pandemic-related shortage of labour, exacerbated by fewer European Union migrants after Brexit, may keep pushing up wages. The more entrenched price pressures are, the more quickly UK rate-setters will have to scale back bond purchases and increase the policy interest rate. This would drive up borrowing costs and make it harder for the government to rein in debt. No one wants Bailey to be right on inflation more than Sunak.

CONTEXT NEWS

- Public sector net borrowing, excluding state-controlled banks, fell to 20.5 billion pounds in August, the Office for National Statistics said on Sept. 21. That was down 21% from a year earlier, but well above the consensus forecast of economists polled by Reuters.

- Interest payments on UK central government debt added up to 6.3 billion pounds in August, compared with 3.4 billion pounds in the same month a year earlier. Such payments hit a monthly record of 8.6 billion pounds in June 2021.

- The recent high levels of debt interest payments were largely a result of movements in the retail prices index to which inflation-linked gilts are pegged, the statistics office said.

(The author is a Reuters Breakingviews columnist. The opinions expressed are her own.)

(Editing by Neil Unmack and Karen Kwok. Graphic by Vincent Flasseur.) ((For previous columns by the author, Reuters customers can click on PATTANAIK/ SIGN UP FOR BREAKINGVIEWS EMAIL ALERTS http://bit.ly/BVsubscribe | swaha.pattanaik@thomsonreuters.com; Reuters Messaging: swaha.pattanaik.thomsonreuters.com@reuters.net))


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