The chancellor’s mini-budget “complicated matters” for the Bank of England as it battled to bring down inflation, the International Monetary Fund’s chief economist has told Sky News.
In an interview at the IMF’s annual meetings in Washington, Pierre-Olivier Gourinchas warned the coming years would “not be very pleasant” for the global economy.
He also said the tax cuts announced by Kwasi Kwarteng late last month threatened to cause “problems” for the UK economy, coming as they did when the Bank was attempting to raise interest rates.
“When the mini-budget was announced at the end of September, there was a concern on our side,” he said.
“While the impulse to protect households and businesses and try to stimulate growth… are great objectives that we would very much support, at the same time, there was the sense that the budget, as it was announced, was suggesting a very stimulative effect in the short run, and something that would have complicated matters for the Bank of England’s efforts to bring down inflation,” Mr Gourinchas added.
He said the IMF welcomed the fact that the chancellor will provide further plans in his medium-term fiscal plan later this month, and that it would assess them when they arrived.
However, the comments come amid a fierce debate about whether the mini-budget was or was not responsible for some of the disturbances in money markets in the ensuing weeks.
Business Secretary Jacob Rees-Mogg suggested earlier on Wednesday that blaming the mini-budget was speculation.
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Mr Gourinchas indicated that the disturbances in UK markets, which have caused problems for some pension schemes reliant on derivative strategies which can no longer function following sharp increases in interest rates, were part of a broader pattern.
“As interest rates rise, you see that segments of the financial markets may not be optimised for higher rates, so they need to unwind trades, they need to reposition themselves. This can sometimes come with some liquidity pressures, some financial vulnerabilities,” he said.
However, for the world economy as well as the UK, Mr Gourinchas warned that in economic terms, the “worst was yet to come”.
“Inflation is still going to be high [next year],” he said. “We’re going to be in an environment where people are going to feel more pain in terms of their incomes and in terms of growth – we’re seeing a third of world output in contraction territory – two consecutive quarters of negative growth.
“Inflation will not be back to target but growth will be below, so we will hear people saying, ‘Oh, this is not working. We need to do something else. We need to change the course of monetary policy.'”
Mr Gourinchas continued: “And this is why we’re saying: no, wait a minute. We know this is going to take some time. We know this is not going to be very pleasant, but central banks need to get on with this and bring inflation down.”
Is there method to the madness? Donald Trump and his acolytes would have you believe so.
The US president is standing firm among all the market chaos.
Just this weekend, after US stock markets suffered their sharpest falls since the onset of the pandemic, Trump reposted a video on his social media platform Truth Social. This was its title: “Trump is purposefully CRASHING the market.”
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The video claimed the president was engineering a flight to US government bonds, also known as treasuries – a safe haven in turbulent times. The video suggested Trump was deliberately throwing the stock market into chaos so investors would take their money out and buy bonds instead.
Why? Because demand for treasuries pushes up the price of the bonds, and that, in turn, lowers the yield on those bonds.
The yield is the interest rate on the debt, so a lower yield pushes down government borrowing costs. That would provide some relief for a government that has $9.2trn of government debt to refinance this year. Consumers also stand to benefit as the US Federal Reserve, the US central bank, would likely follow suit, feeling the pressure to cut interest rates.
A trader works on the floor at the New York Stock Exchange. Pic: Reuters
Trump and his treasury secretary, Scott Bessent, have made it a key policy priority to lower yields. For a while, it looked like the plan was working. As stock markets tumbled in response to Trump’s tariffs agenda, investors ploughed their money into bonds instead.
However, Trump may have spoken too soon. On Monday, the markets had a change of heart and rapidly started selling government bonds. Thirty-year treasury yields hit 4.92% on Wednesday, their biggest three-day jump since 1982. That means government borrowing costs are rising – and not just in the US. The sell-off has spiralled to government bonds worldwide.
Rachel Reeves will be watching anxiously. Yields on Britain’s 30-year government bonds, also known as gilts, hit their highest level since May 1998. They registered a 27 basis point jump to 5.642% today – that’s on track to be the largest one-day move since the aftermath of former prime minister Liz Truss’ “mini-budget” in October 2022.
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This is a big deal. It is the sharpest sell-off in the US bond market since the pandemic. Back then, investors also rushed into bonds before dumping them and the motivations, on one level, are similar.
In 2020, investors sold bonds because they had to cover losses elsewhere in their portfolios. When markets fall, as they have done over the past few days, lenders can demand that an investor who has borrowed money stump up more cash against the value of their loan because the collateral against those loans has fallen in value. This is known as a “margin call”. Government bonds are easy to sell as investors “dash for cash”.
There are signs that this may be happening again and central banks, which had to step in last time, are alert.
The Bank of England warned today of the growing risks to financial stability. “A sharp increase in government bond yields could crystallise relatively quickly,” it said.
There are other forces weighing on government bonds. With policy uncertainty unfolding in the US, investors could also be signalling that US debt isn’t the safe haven it once was. That loss of confidence also seems to have hurt the dollar, one of the world’s safest places to park your money. It’s had a turbulent journey but is down 1.15% against a basket of safe haven currencies since Trump announced widespread tariffs on 2 April.
Some are even wondering if China could be behind some of this, dumping US government debt as a revenge tactic to hurt a president who has explicitly said he wants bond yields to come down. The country holds $761bn of US government bonds, second only to Japan. If this is the case, then the US-China trade war could rapidly be evolving into a financial war.
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