It was Bill Clinton’s political adviser James Carville, way back in the 1990s, who said that in another life he would like to “come back as the bond market” – in preference to a president or a pope – because “you can intimidate everybody”.
Even Donald Trump, that most wilful of politicians, has been forced to retreat in the face of bond market moves in recent months, ditching the most extreme of his “reciprocal” tariffs after US Treasury yields jumped.
And despite the traditional status of US Treasuries (government bonds) as a safe haven for global investors, it is still not clear how well financial markets will be able to swallow the $3.3tn increase in debt coming down the tracks if Trump’s “big beautiful bill” is passed.
So when investors dumped gilts (UK government bonds) on Wednesday, as Rachel Reeves wept in the Commons, it was an abrupt reminder that Labour backbenchers were not the only audience the government must placate.
Like many other major economies hit by a succession of shocks in recent years, the UK’s relatively large debt pile means policymakers have to keep one eye on the markets they are relying on to fund their borrowing.
And some analysts argue that the UK appears particularly vulnerable to crises of investor confidence, after the Liz Truss debacle of 2022.
Given this backdrop, Reeves’s team have always said their strict fiscal rules are not “self-imposed” but there to prevent the government running up against the real-world constraints of the bond markets. As the chancellor put it in a recent speech, “it is not me ‘imposing’ borrowing limits on government. Those limits are the product of economic reality.”
Wednesday’s bond market moves supported her point, with the yield (in effect the interest rate) on government debt ticking up, as Keir Starmer appeared to hesitate in giving the chancellor his full backing.
The market move suggested that, while Reeves may have lost credibility with Labour backbenchers after what many see as catastrophic misjudgments over winter fuel and welfare cuts, she does, apparently, retain the confidence of the bond markets.
That matters, because this Labour government is operating in a very different, much more constrained fiscal environment than its predecessors.
Government debt in the UK was running at about 30% of GDP in the early 00s, when Tony Blair was prime minister. Then came the global financial crisis, prompting multibillion-pound bailouts and a deep recession, and more than doubling the debt-to-GDP ratio to 70% by the time Labour left office.
The decade and a half since has been marked by sickly economic growth, and another two “once in a lifetime” economic shocks: Covid, and the energy crisis prompted by Russia’s invasion of Ukraine.
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Government debt is now close to 90% of GDP and is heading higher. The interest on that has cost the taxpayer more than £100bn in the last fiscal year – as much as 8% of public spending.
In other words, what appear to be tiny moves in interest rates, if sustained, can cost taxpayers billions.
The fact that Reeves’s “headroom” against her fiscal rules evaporated between the autumn budget and March’s spending review was caused more by rising interest rates on government debt than a slowing economy – and this was driven as much by global events, including US tariffs chaos, as by decisions at home.
Reeves hopes the squeeze on the public finances will ease as economic growth picks up – but that feels challenging, given the highly uncertain international context and the unavoidably long-term nature of many of Labour’s pro-growth policies.
By Thursday, the jump in gilt yields had partly reversed, after Starmer made clear Reeves continued to have his backing – perhaps not surprisingly, as there is scant evidence he wants to abandon her broad approach.
Some of the chancellor’s allies argue that she has emerged strengthened for the internal rows ahead, because she can point to investors’ jitters to show there are limits to what the markets will tolerate.
But after this week’s welfare climbdown, her autumn budget looks like a fearsomely difficult balancing act, between restive backbenchers and sceptical investors.