UK borrowing costs hit 27-year high adding to pressure on Reeves

UK government borrowing costs have reached their highest level since 1998, adding to the pressure on the chancellor ahead of the Budget.

The interest rate on 30-year government bonds, known as the yield, jumped to 5.698%, making it more expensive for the government to borrow money.

There are rising expectations that Chancellor Rachel Reeves will increase taxes in the Budget later this year in order to meet her financial rules, as worries grow about the state of the government’s finances.

On the currency markets, the pound also fell more than 1% against the dollar on Tuesday morning.

The pound fell to $1.3379, which was its lowest level against the US currency since 7 August.

The UK was not alone in seeing borrowing costs rise, with yields on 30-year German, French and Dutch bonds climbing to their highest levels since 2011.

A number of factors have led to borrowing costs for governments around the globe to go up, such as geopolitical tensions, US President Donald Trump’s trade policies and the upcoming confidence vote in the French government.

But Susannah Streeter, head of money and markets, Hargreaves Lansdown, said the UK chancellor faced “highly difficult choices” in the Budget and that she had been “dealt a warning” by investors.

“They are selling off UK government debt, clearly concerned that the government may be losing its grip on the public finances,” she added.

In its manifesto, Labour promised not to raise taxes such as income tax, VAT or national insurance on “working people”, and this has led to much speculation over what taxes Reeves could raise in the autumn Budget.

One option suggested is that the freeze on income tax thresholds, which is due to end in 2028, could be extended. The freeze means that, over time, more people are dragged into paying higher tax rates.

There have also been reports that Reeves is considering reforming property taxes.

“With so many options for raising taxes being bandied about during the summer, there appears to be concern that the decisions made might not be sufficiently thought through,” said Ms Streeter.

“The worry isn’t just that government coffers won’t be replenished, but that they will be filled at the expense of growth, leading to a vicious circle emerging.”

Governments borrow money from investors by selling bonds – which is a loan the government promises to pay back at the end of an agreed time.

The yield on 30-year UK government bonds – known as gilts – has been rising for some months, and this makes it more expensive for the government to borrow money due to higher interest payments.

The government’s official forecaster, the Office for Budget Responsibility (OBR), takes borrowing costs into account when looking at whether the chancellor is meeting her self-imposed fiscal rules.

When she became chancellor, Reeves set out two rules on government borrowing, which she has repeatedly said are “non-negotiable”. These were:

• day-to-day government costs will be paid for by tax income, rather than borrowing by 2029-30

• to get debt falling as a share of national income by the end of this parliament in 2029-30

Part of the reason Reeves is under pressure is that her financial buffer to stick to these rules is a relatively slim £10bn. The chancellor recently refused to rule out tax rises after disappointing data on economic growth.

On Tuesday, a spokesperson for Keir Starmer said the government’s “iron-clad commitment to our robust fiscal rules remains”, adding it had made the necessary decisions to “stabilise the public finances”.

But shadow chancellor Mel Stride said the latest market movements were “another economic disaster from Rachel Reeves – and a clear vote of no confidence in Labour from the markets”.

“With more tax rises on the horizon, the economy is now in a precarious position,” he added.

There has been a wide range of forecasts for how much money Reeves might need to raise in the Budget to meet her rules.

One factor that will influence this is the borrowing costs facing the government.

However, as when the OBR makes its forecasts for government finances it is the yield on 10-year bonds, not 30-year, that matters, and these remain below levels seen at the start of the year.

As things stand, the 10-year borrowing costs do point to a higher debt interest forecast than in March, but it is still some weeks before the reference point the OBR will use to make the autumn forecasts is reached.

Paul Dales, chief UK economist at Capital Economics, said concerns about the path of UK inflation and interest rates, combined with global issues, were pushing UK government borrowing costs up.

In addition, he added that pension funds were also not buying as much long-term government debt due to the change in recent years from defined-benefit to defined-contribution schemes.

Mr Dales said Reeves would have to raise between £18bn and £28bn in the Budget to avoid breaking her fiscal rules, and to maintain her £10bn buffer.

Households and banks “will probably feel the brunt of the higher taxes”, he said.