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The “premium” that the UK pays to borrow money compared with its international peers may be coming to an end as markets grow more confident about the government’s plans, a thinktank has suggested.
The Institute for Public Policy Research (IPPR) said that the chancellor Rachel Reeves’s announcement in the autumn budget that she would be more than doubling the UK’s financial headroom by 2030 from £9.9bn to £22bn had begun to assure bond markets about Labour’s fiscal approach.
Government bond yields – which is the return paid on government debt – have been increasing around the world in recent years, as a result of higher inflation, rising interest rates and countries running bigger deficits.
However, UK’s gilt yields have been higher than its peers, including the US and the eurozone, largely because the economy suffers from a “credibility problem” over whether its fiscal policies will be achieved, according to IPPR, a left-leaning thinktank.
UK yields have risen by 0.4 to 0.8 percentage points more than major peers since Labour won the 2024 election, the IPPR said, costing taxpayers up to £7bn a year. The government has spent £92bn on interest payments so far for this financial year, it said.
The higher cost of borrowing for the UK comes despite the fundamentals of its economy being stronger than countries with lower borrowing costs. The UK’s debt-to-GDP ratio is 101%, compared with 122% in the US and 237% in Japan, and the government is planning to halve the amount it borrows each year by the end of this parliament.
The problem is that bond traders think the UK is not good at keeping to its fiscal policies, the IPPR said. The mini-budget in 2022 under the Liz Truss administration “showed how quickly a UK government could bypass the fiscal framework”, the thinktank said. It added that in the years leading up to this event, successive chancellors had “repeatedly changed, missed or redefined their own fiscal rules” or changed themselves, with seven different chancellors from 2016 up to the 2024 election. A “lack of trust in stated fiscal policy has set in, as actions have spoken louder than words,” it said.
However, the autumn budget prompted the UK premium against the eurozone to almost halve. William Ellis, a senior economist at IPPR, said: “The premium on UK borrowing costs appears to be easing, showing that markets are responding to growing confidence in the government’s fiscal approach. Sticking to its fiscal plans could save the exchequer billions and free up fiscal space in the future.”
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IPPR said another way to lower borrowing costs would be for the Bank of England to pause its sale of government bonds after “selling them at a record pace”.
Carsten Jung, the associate director for economic policy at IPPR, said: “The Bank of England needs to pull its weight. Actively selling government bonds is adding unnecessary pressure to the gilt market. It should stop – just as every other major central bank has.”
