GLOOMY KINGDOM
GLOOMY KINGDOM
What is the core of
this article?
This article is about UK’s current turmoil and tries to
lay down the causes of the current position of the nation. In the end, I will
also try to conclude.
UK Gilt Problem:
On 28th September UK 10Y bond yield hit a 14 years high mark at 4.54%, more than four times from 1st Jan 2022 because of QT(Quantitative Tightening) and Liz Truss U-turn policy. On the other side, BOE (Bank of England) is aggressively rising the interest rates to tackle the skyrocketing inflation.
During Covid, central banks all over the world were doing QE (Quantitative Easing) and increasing liquidity in the market, at that time, pension funds bought assets including the UK gilt fund with a lot of leverage, but now when BOE is doing QT (Quantitative Tightening) and rising interest rate at the same time this situation is causing margin call on pension fund’s assets as funds used derivative on their assets for the purpose of hedging and other income, and this margin call may cause them to sell the gilt fund and eventually lead to a higher yield on gilt. In simple words, we can say that QE is easy to do but reversing it is a very hard thing to do even for the most brilliant minds in the economy.
Liz Truss has resigned
as PM- but what went awry in the UK’s economy?
Like many nations, the UK is also suffering from the
Ukraine crisis impacting energy, grain, and other prices. In addition, coming
out of the pandemic, the UK saw its roughly 30 million strong workforces shrink
the labor market. Then, we have had shambolic- and there really is no other
word for it- events recently. Following Boris Johnson’s ouster, there was a
leadership contest between Rishi Sunak and Liz Truss, who was more popular in
the Conservative Party. She campaigned on a liberal philosophy of cutting
taxes. Claiming that would stimulate growth, even obviating the need to cut
government spending in the long side. Truss introduced a ‘mini-budget’ – in the short term, to protect households from
higher wholesale gas costs, a cap on retail prices was established, essentially
subsidizing them. That was expected to cost £60 billion but it was temporary- a
bigger issue was unwinding some of the permanent tax increases Sunak had established
to pay for higher health spending, a cut in income taxes, getting rid of a
higher rate tax band, etc. These measures amounted to around £45 billion in tax
cuts, with no substantive information about how they would be financed.
Earlier, Truss claimed tax cut could be paid for from
the £30 billion headroom Sunak had left himself in the spring but because of
the Ukraine crisis, that had turned into a shortfall. Then, the government made
another £45 billion of tax cuts, amounting to a £70 billion deficit, around 3%
of the GDP, with nothing to convince the markets about how this was a coherent
policy and the big unknown is the equation between spending and taxes.
Now, on 20th Oct 2022, Liz Truss resigned
from the PM position because most of the people from his own conservative
party lost confidence in her due to his policies. On the other side, for the
first time in the UK’s history, an Indian-origin person has become the PM.
Rishi Sunak won the internal election with the majority of the votes on 25th
Oct.
Brexit refers to the U.K.'s withdrawal from the European Union after voting to do so in a June 2016 referendum. This process was completed on 31st December 2020. And just after that Covid pandemic kicked the whole world into a slowdown. However, the situation is very particular in the British economy because it is experiencing a series of affectations in its production and supply chain, partly altered by Brexit, the natural flow of goods and services that it obtained under the umbrella of the EU is a jumble of paperwork, bureaucracy and wasted time. The government has not listed the whole changes in the policy of Brexit which increases the uncertainty among investors.
The Conclusion
