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The Guardian - UK
The Guardian - UK
Business
Graeme Wearden

Kwarteng to ‘work closely’ with banks as five-year mortgage rates hit 6%; pound falls through $1.12 – as it happened

Kwasi Kwarteng Fitch United Kingdom United States
The window of an estate agent in Holmfirth, Britain
The window of an estate agent in Holmfirth, Britain Photograph: Adam Vaughan/EPA

Closing post

That’s all for now. Here are our main stories, after a busy day:

Goodnight. GW

Pound drops below $1.12 as mini-budget fears swirl

Kwasi Kwarteng’s pledge to work closely with UK banks hasn’t provided much support for the pound, I’m afraid.

Sterling has now sagged back below $1.12 against the US dollar, down a cent and a half today.

That’s the lowest since Monday, and puts the pound on track for two chunky falls in a row (it’s nearly three cents lower than the start of Wednesday).

Thanim Islam, market strategist at international business payments firm Equals Money, says uncertainty over the government’s plans to lower debt in the medium-term could hurt the pound:

We are a long way from the Chancellor’s fiscal plan, due to be announced on the 23rd November, and until then the pound once again looks in a vulnerable state, should any comments from Number 10 fail to inspire any confidence.

Belarus bans consumer price rises in bid to tame inflation

Meanwhile in Belarus, the president President Alexander Lukashenko has come up with a bold way to control inflation – a ban on consumer price rises.

The state-run Belta news reported that Lukashenko was cracking down on rising prices, responding to “exorbitant” inflation across the economy.

Lukashenko told a meeting of government ministers, to discuss economic matters, that:

“From 6 October any increase in prices is prohibited. Forbidden! From today. Not from tomorrow, but from today. So that they do not inflate prices over the day.

Therefore, from today, price increases are prohibited. God forbid someone decides to raise prices or do some indexation retroactively.”

Starmer: Rising mortgage rates will destroy growth.

Labour leader Sir Keir Starmer has argued that the government needs to reverse last month’s mini-budget, to support the economy, PA Media reports.

Starmer told reporters, during a visit to Bilston, Wolverhampton, in the West Midlands:

“The direct consequence of what they did two weeks ago, is hitting working people.

“It’s wrong. It’s unfair, and they need to reverse that budget.

“And the sooner they do that, the better. What we need is stability.

“And you’re not going to get that from this Government.”

Starmer also pointed out that the surge in borrowing costs since the mini-budget would hurt growth (as it will leave households with less to spend on goods and services)

“The Prime Minister has taken the economy, driven it into a wall, and (is) pretending that this is pro-growth.

If you have consequences that increase mortgage payments by hundreds of pounds per month, that is anti-growth.

“It’s a destroyer of growth. “It certainly isn’t pro-growth.”

Updated

Money markets expectations of UK interest rates are rising....

While Kwarteng was meeting bank chiefs, the money markets were raising their expectations for UK interest rates again.

With bond yields rising again, the markets now indicate Bank of England base rate could have jumped to 5.8% by next June.

Earlier this week, rates were expected to peak below 5.5%, after being seen over 6% in the days shortly after the mini-budget.

Updated

Treasury 'to work closely with banks on mortgages'

Chancellor Kwasi Kwarteng has told Britain’s banks he will work closely with the financial sector on mortgage lending, at today’s meeting with industry chiefs.

A Treasury readout following the talks says:

“While it is the responsibility of the sector to provide the best value for mortgage rates, the Chancellor confirmed that the Treasury would continue to work closely with the sector in the weeks and months ahead.”

As we reported earlier, top executives were expected to raise concerns about rising borrowing costs – following the mini-budget.

And Sky News reported that lenders would ask the chancellor to extend the home loans initiative which helps first-time buyers get onto the property ladder.

Updated

The Bank of England has deployed a little bit more of its emergency bond buying firepower (the one saving the UK pension industry from disaster following the mini-budget).

Today, the Bank agreed to buy almost £154m of long-dated gilts, in its daily reverse auction aimed at stabilising financial markets.

That’s its first purchases since Monday.

The BoE also rejected £126.9m of gilts which it was offered, concluding that it did not need to stump up any more to preserve financial stability.

The Bank could spend up to £5bn per day on long-dated gilts, but has currently only bought around £4bn in total.

Updated

More reaction to Deutsche Bank’s warning about the UK’s looming recession, and slow recovery:

IMF sees rising risk of recession.

The International Monetary Fund headquarters in Washington

The International Monetary Fund will next week downgrade its forecast for 2.9% global growth in 2023, managing director Kristalina Georgieva has revealed.

Georgieva warned that the world faces rising risks of recession and financial instability, due to the shocks caused by the COVID-19 pandemic, Russia’s invasion of Ukraine and climate disasters on all continents.

Speaking ahead of the annual meetings of the fund and the World Bank next week, Georgieva says:

“We are experiencing a fundamental shift in the global economy, from a world of relative predictability ... to a world with more fragility - greater uncertainty, higher economic volatility, geopolitical confrontations, and more frequent and devastating natural disasters.

The IMF estimates that countries accounting for about one-third of the world economy would see at least two consecutive quarters of contraction this year or next, Georgieva said, adding:

“And, even when growth is positive, it will feel like a recession because of shrinking real incomes and rising prices.

Here’s the full story:

Updated

The UK government insists it has put plans in place to secure its energy supply for the winter, following the National Grid’s warning of possible planned power cuts this winter.

The Business, Energy and Industrial Strategy said in a statement that customers would be rewarded for cutting demand at peak times (through a “demand flexibility service” for those with smart meters).

BEIS says:

“We are confident in our plans to protect households and businesses in the full range of scenarios this winter”

“To strengthen this position further, we have put plans in place to secure supply and National Grid, working alongside energy suppliers and Ofgem, will launch a voluntary service to reward users who reduce demand at peak times.”

Deutsche Bank: UK economic outlook has weakened further

Deutsche Bank has cut its economic forecasts for the UK next year.

It now sees the UK “in a recessionary orbit” with growth likely to remain subdued for much of the next year or so.

It predicts that UK GDP will fall by 0.5% in 2023 (down from a previous forecast of 0%), before growing by 1% in 2024, when the economy would finally return to its pre-pandemic level.

On the upside, GDP is expected to have risen by 4.5% this year, up from 3.5% forecast before.

Deutsche’s chief UK economist, Sanjay Raja, gives three reasons fot the changes.

  • Easier fiscal policy should support real disposable incomes by a little more than we anticipated this year and next – despite price pressures expected to be a little more persistent over the next two years.

  • Tighter financial conditions, however, will offset much of gains in fiscal policy. Household spending and business investment are likely to track a little lower than we previously anticipated, especially with unemployment expected to rise from next year.

  • A weaker global backdrop will weigh on UK trade. Our Euroarea colleagues anticipate a deeper winter downturn (relative to our previous projections). This should hurt UK exports over the coming quarters.

Updated

US recession 'now over 50% chance'

A US recession is now “more likely than not”, Capital Economics say.

They told clients:

In light of the Fed’s increasingly aggressive monetary tightening, we now think the economy is headed for a mild recession early next year.

Our composite tracking models support that forecast, with the implied odds of the economy being in recession in six months’ time now above 50%.

UK households could face three-hour power cuts this winter, National Grid warns

Britain could face planned power cuts to homes and businesses this winter if it is unable to import electricity from Europe and it struggles to attract enough gas imports to fuel its gas-fired power plants, Britain’s National Grid has warned.

The warning comes in its Winter Outlook, just released.

It warns that households could experience a series of three-hour power cuts this winter if Vladimir Putin shuts off gas supplies from Russia and Britain experiences a cold snap.

Such an event would mean consumers in different parts of the country being notified a day in advance of three-hour blocks of time during which their power would be cut off, in an effort to reduce total consumption by 5%.

The emergency plan need would need to be approved by King Charles on the recommendation of the business secretary.

National Grid said that in the “unlikely event” of a shortage of gas supplies that some consumers would be without power for “pre-defined periods” during a day to “ensure the overall security and integrity of the electricity system across Great Britain”.

Here’s the full story, by our energy correspondent Alex Lawson:

Updated

The UK’s biggest mortgage lenders were planning to urge the chancellor to extend a government home loans initiative which helps first-time buyers get onto the property ladder, Sky News reports.

Executives from major banks and Nationwide, Britain’s biggest building society, were expected to ask Kwasi Kwarteng to commit to renewing the Mortgage Guarantee Scheme, at today’s meeting.

The scheme is scheduled to expire at the end of the year.

Launched in the spring of 2021, it gives lenders an option to underwrite through the government the losses incurred on mortgages above 80% of the purchase price of a property.

Back in the UK, buy-to-let landlords are struggling to get a new mortgage deal following the mayhem in the markets.

The Daily Telegraph reports:

Two-year fixed-rate mortgages have disappeared from the market in the last few weeks. At close of business on Wednesday just two of these mortgages for buy-to-let landlords purchasing in through a company were available, according to Mortgages for Business, a buy-to-let broker.

A further 67 two-year fixed-rate deals remain available for landlords purchasing as individuals. Experts said the number of fixed-rate deals on the market was down by 70pc.

More here: Mortgage crisis spreads as buy-to-let loans disappear

US jobless claims rise

Just in: More Americans signed on for jobless support last week, in what might be a sign that the labour market cooled.

There were 219,000 new ‘initial claims’ for unemployment benefit in the week to 1st October, a rise of increase of 29,000 from the previous week’s revised level, and more than forecast.

This weekly jobless data can be noisy, but it could indicate that higher interest rates are having an impact:

Wall Street is set for a lower open too, as traders ponder whether the US Federal Reserve might ease up on its interest rate rises, or keep pressing on…

Stocks are lower in London today too, with the blue-chip FTSE 100 down 54 points, to 6998.

The pound has slipped further during today’s session, and is now down eight-tenths of a cent at $1.1244.

Craig Erlam, analyst at OANDA, says:

The UK economy appeared to get some good news from the Construction PMI this morning, which easily beat expectations rising to 52.3 rather than dropping to 48.1 from 49.2. So rather than contracting at a faster rate, the industry posted strong growth in the survey. Unfortunately, the headline number simply doesn’t tell the full story. The improvement was driven by delayed projects and easing supply shortages, while new orders showed the weakest growth since May 2020. That’s a more accurate reflection of the state of play in the UK right now…

…As was captured overnight by Fitch downgrading the outlook from stable to negative in light of the mini-budget.

The overall rating remained at AA- but that may change once the details of how everything will be paid for are released in the budget. Sterling is down for a second day after recovering over the last week.

The jump in UK fixed-term mortgage rates to above 6% creates a conundrum for those with home loans, and those looking to take one out. Is it better to borrow now, or wait?

Pete Mugleston, MD and mortgage expert at www.onlinemortgageadvisor.co.uk, says:

“When it comes to remortgaging, we’d recommend fixing for longer – especially if your current deal has less than six months remaining – to protect yourself from further price rises in the future.

However, for those looking to buy, it might be worth waiting to see how the situation develops in the coming weeks and considering your options, especially in light of the recent news that major banks are set to meet the Chancellor to discuss the mortgage market and soaring rates.

Rail travellers have been warned that only a fifth of normal train services will run on Saturday due to industrial action.

Network Rail reports that around half of the network will be closed all day and trains will only operate between 7.30am and 6.30pm.

Passengers are being urged to “only travel by train if absolutely necessary”.

More than 40,000 members of the Rail, Maritime and Transport (RMT) union at Network Rail and 15 train operating companies will walk out on Saturday in a row over jobs, pay and conditions.

Meanwhile in Germany, a drop in factory orders shown Europe’s economy is close to recession.

German factory orders dropped by 2.4% in August, government figures show, after a 1.9% gain in July.

The Federal Statistics Office said in a statement that:

Enterprises still have difficulties completing their orders as supply chains are interrupted because of the war in Ukraine and distortions persist that have been caused by the Covid-19 crisis.

Here’s some reaction to the Bank of England’s explanation of how it saved the UK’s pension industry last week (see earlier post for full details).

Updated

The jump in mortgage rates mean borrowers face paying thousands of pounds more per year than if they’d fixed at the end of last year.

Back in December 2021, the average two-year fixed mortgage on the market had a rate of 2.34%. Someone with a £200,000 mortgage taking out a two-year deal at that time could have had monthly repayments of around £880.

But on current average rates, their monthly mortgage repayments could be over £1,300 - a difference of around £420 per month, or more than £5,000 per year.

The picture is similar for five-year fixed-rate mortgages. The average rate last December was 2.64%, meaning monthly payments of £910 for someone with a £200,000 mortgage

But now, someone could pay £1,290 per month if they took out a five-year deal now - a jump of just under £380 per month, or more than £4,500 per year.

The CEBR also predict today that mortgage rates will keep climbing in the months ahead, to over 7% by next spring.

In its latest Housing Prospects report, it predicts the Bank of England will raise interest rate by 75 basis points in both November and December, raising Bank Rate to 3.75%.

Further rises could lift it to a peak of 5.0% by the middle of 2023, up from 2.25% today (and just 0.25% at the start of the year).

The CEBR says:

Accordingly, newly fixed 75% LTV mortgage rates at a two- and five-year fix are expected to reach respective peaks of 7.4% and 7.7% across Q2 next year, their highest levels in at least 20 years.

By significantly reducing mortgage affordability and demand among those seeking to borrow or remortgage, this is set to weigh on price growth across the coming two years.

Forecasts for UK house price moves
Forecasts for UK house price moves Photograph: CEBR

Having shrunk severely last week, the number of mortgage products on the market is creeping up again.

Moneyfacts reports that there are around 2,430 mortgage deals available today, up from 2,258 on Sunday.

But the market is still much smaller than before the mini-budget, when there were almost 4,000 options – before the surge in interest rate expectations forced lenders to pull some deals.

Average five-year mortgage rate hits 6%

The average five-year fixed-rate mortgage on the market has breached 6% for the first time in 12 years, as the crisis in the lending market deepens.

Across all deposit sizes, two-year and five-year fixed rates now both stand at more than 6% on average, according to Moneyfacts.co.uk.

The average five-year fixed-rate mortgage rose to 6.02% this morning, Moneyfacts said, having crept up from 5.97% on Wednesday.

The last time average five-year fixed-rate mortgages were at 6% was in February 2010, when the typical rate was 6.00%.

The average two-year fixed-rate mortgage is now 6.11%, having breached the 6% mark on Wednesday, for the first time since November 2008.

Surging mortgage rate will force more lenders into arrears, economists fear, and also push down house prices.

The Centre for Economics and Business Research warned this morning:

With average mortgage rates set to reach more than 20-year highs by mid-2023, and stagflationary pressures set to reduce real earnings further, affordability will worsen next year.

Accordingly, annual house price growth is expected to enter negative territory during the first half of 2023, with an overall annual contraction of 3.9% expected across the whole year.

Updated

UK banks to raise mortgage market fears in Kwarteng meeting

High street bank bosses will tell the chancellor, Kwasi Kwarteng, that they have growing concerns over the state of the UK’s mortgage market when they gather at Number 11 Downing Street today.

The meeting – which is expected to be attended by chief executives, including Alison Rose of NatWest, Charlie Nunn of Lloyds Banking Group, Mike Regnier at Santander and Robin Bulloch at TSB – comes amid mounting fears about the potential fallout from rapidly rising mortgage rates.

Executives are understood to be planning to raise concerns about rising borrowing costs, which surged last week after the government’s mini-budget sent UK financial markets into meltdown.

There are concerns that rising interest rates – while more lucrative for banks – will make it difficult for homeowners to repay their home loans.

Here’s the full story:

BoE's Cunliffe: Pension funds must learn lessons from LDI near-meltdown

Pensions funds need to learn lessons from the panic in the UK bond market last week which forced the Bank of England to intervene, a deputy governor at the central bank has said.

Sir Jon Cunliffe has written to parliament’s Treasury Committee, explaining how the unprecedented slump in UK gilt prices forced its emergency bond-buying programme last week, to rescue pension funds from disaster.

Cunliffe’s letter lifts the lid on just how serious the situation became, as the plunge in the value of UK government debt after the mini-budget threatened financial instability.

Cunliffe explains that last Wednesday’s major invention, pledging to buy up to £65bn of long-dated gilts, was triggered by warnings that pension funds’ liability-driven investment (LDI) investments were under massive pressures.

Those LDI strategies try to match a fund’s long-term liabilities against its assets, Cunliffe tells MPs:

LDI strategies enable DB pension funds to use leverage (i.e. to borrow) to increase their exposure to long-term gilts, while also holding riskier and higher-yielding assets such as equities in order to boost their returns.

But the drop in bond prices (which pushes up yields) put increasing pressure on LDI schemes, forcing funds to put up more collateral – raised by selling their gilts.

Cunliffe helpully shows MPs how the selloff in UK bonds was much worse than for US or eurozone bonds:

UK, US and eurozone long-dated bond yields
UK, US and eurozone long-dated bond yields Photograph: Bank of England

Last Monday (when the pound hit a record low) the Bank received market intelligence of increasing severity from a range of market participants, and in particular from LDI fund managers.

The situation worsened further last Tuesday (27th September), foring it to act, Cunliffe explains:

The Bank was informed by a number of LDI fund managers that, at the prevailing yields, multiple LDI funds were likely to fall into negative net asset value. As a result, it was likely that these funds would have to begin the process of winding up the following morning.

In that eventuality, a large quantity of gilts, held as collateral by banks that had lent to these LDI funds, was likely to be sold on the market, driving a potentially self-reinforcing spiral and threatening severe disruption of core funding markets and consequent widespread financial instability

Bank staff worked overnight on Tuesday to design an intervention to address the problem, Cunliffe says. That pledge, to buy up to £5bn of long-dated gilts each day, calmed the markets– and the Bank’s only had to buy under £4bn so far.

Cunliffe concludes by warning that the Bank, and City regulators, are closely monitoring LDI funds as they put their positions on a sustainable footing, and prepare better for future stresses.

While it might not be reasonable to expect market participants to insure against all extreme market outcomes, it is important that lessons are learned and appropriate levels of resilience ensured.

Updated

UK business inflation expectations rise in September

Fitch are right to be worried about inflation, judging by the latest data from the Bank of England.

British businesses’ expectations for consumer price inflation in one year’s time rose to 9.5% last month, up from 8.4% in August, a BoE survey of chief financial officers shows.

Bosses also expect to keep raising prices – output prices are forecast to rise by 6.6% in the year ahead, up from expectations of 6.5% in August.

The survey was conducted in the first half of September, before the mini-budget, and will add to the BoE’s concerns that inflation expectations are rising.

Fitch also warned that the UK faces the risk of “prolonged inflationary pressures”:

The agency forecasts that inflation will average 8.9% this year (it was 9.9% in August), before gradually declining to 4% in 2024.

This, they say, will spur the Bank of England to raise interest rates to 5% next year (from 2.25% at present.

Although the energy price cap will lead to a lower inflation peak, rising core inflation (6.3% in August) reflects strong pressures from domestic demand and a tight labour market.

A weaker GBP [the pound] could also feed price dynamics through higher import prices. We consider that these factors and the fiscal stimulus announced will lead the BoE to increase its policy rate to 5% in 2023 and maintain rates at 4% by end-2024.

Fitch’s threat to downgrade the UK’s credit rating shows the anxiety over the serious concerns about the government’s push for unfunded tax cuts, Interative Investor’s Victoria Scholar adds:

There are serious concerns about the government’s unfunded stimulus measures and what the increased levels of borrowing will spell for the UK’s inflationary conundrum as well as its debt levels down the line.

The UK is already dealing with historically high debt levels in the aftermath of the pandemic when billions were spent on expensive emergency programmes such as the furlough scheme, track and track and the vaccine roll-out.

Construction firms gloomier as recession worries grow

Activity among British construction companies improved unexpectedly last month, but builders were also hit by a fall in new business as the economic outlook deteriorated.

The Construction Purchasing Managers’ Index, which measures activity in the sector, rose to 52.3 in September from 49.2 in August – showing a return to growth, as supply chain problems eased.

But, business optimism hit the lowest since July 2020 as new orders stalled.

Housebuilders reported that activity rose, but civil engineering projects declined again.

Construction firms said clients were slow, or reluctant, to sign off projects due to inflation concerns, squeezed budgets and worries about economic outlook.

Tim Moore, economics director at S&P Global Market Intelligence, which compiles the survey, warned that the outlook is weak:

Forward-looking survey indicators took another turn for the worse in September, with new business volumes stalling and output growth expectations for the year ahead now the lowest since July 2020.

This reflected deepening concerns across the construction sector that rising interest rates, the energy crisis and UK recession risks are all set to dampen client demand in the coming months.”

Updated

Here’s our news story on Fitch’s cut to the UK’s credit rating outlook:

A Shell petrol station sign, in Milton Keynes

Energy news: Shell has warned that its profits this quarter will be hit by a drop in refining margins, and a squeeze on its chemicals division too.

Margins at Shell’s refining business – which turns crude oil into products such as petrol and diesel – are expected to fall to $15 a barrel, down from $28/barrel in the last quarter. This will knock up to $1.4bn off Shell’s adjusted underlying earnings.

Margins at its chemicals unit have tumbled dramatically too – to minus $27 per tonne, from $86 per tonne in the previous three months.

This suggests that Shell’s run of record profits could be ending, with Brent crude having dropped steadily since June.

Victoria Scholar, head of investment at interactive investor, explains:

In what is a notoriously cyclical business, Shell is grappling with a dysfunctional and volatile gas market as well as expectations of softening oil demand, particularly from China as the global economy cools.

Shell has been a major FTSE 100 winner this year amid the equity market turmoil, up by around 40% year-to-date.

This morning, though, Shell are down 3.7%, near the bottom of the FTSE 100 leaderboard.

Rather than clearing the crisis in-tray, problems keep piling up for the Truss administration, says Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown:

Another threat of a ratings downgrade comes hard on the heels of mortgage rates shooting up to 14 year highs and the steep rise in oil prices, which threaten to keep fanning the fires of inflation.

The Prime Minister’s speech yesterday had nothing new to reassure markets and with political divisions widening within her party of how to pay for big tax cut promises, ratings agencies are far from impressed. Fitch followed S&P to cut the outlook on the UK’s AA investment grade rating to negative from stable.

This matters because even without a downgrade the UK’s borrowing costs have risen sharply, and if the ‘stable’ rosette is ripped off, foreign creditors are going to demand even more money to fund the government’s growing debt pile. Moody’s has also warned that large unfunded tax cuts risks damaging the country’s debt affordability.

Updated

Bloomberg: Uninvestable’ UK market lost £300bn in Truss’s first month

At least £300bn has been wiped off the value of Britain’s stock and bond markets during Liz Truss’s first month in power.

Bloomberg has calculated that the market value of its UK gilt and inflation-linked gilt indexes has lost around £200bn since the Conservative Party chose their new leader in early September.

The FTSE 350 Index, which includes the blue-chip FTSE 100 and the domestically focused FTSE 250 -- is down by about £77bn since the September 2 close.

The market value of Bloomberg’s gilt and inflation-linked gilt indexes (UK government bonds) has lost around £200bn. Company bond prices have also fallen.

We should remember that financial markets globally also had a rocky September, hit by concerns of a world recession as central banks hike interest rates to battle inflation.

But UK bonds fell much more sharply than rivals after the mini-budget, while shares in property companies tumbled on fears of higher interest rates to cool the inflationary impact of unfunded tax cuts.

Investors have been spooked by Truss and Kwarteng’s plans, warns Liberum Capital strategist Joachim Klement.

Klement says:

“The feedback we get from investors is that they consider the UK uninvestable as long as there is such government chaos.”

Here’s Bloomberg’s full story: ‘Uninvestable’ UK Market Lost £300 Billion in Truss’s First Month

Sterling is a little higher against the US dollar this morning, after sliding back yesterday.

The pound has gained a third of a cent to $1.136, towards the two-week high near $1.15 early on Wednesday.

The pound vs the US dollar
The pound vs the US dollar in the last quarter Photograph: Refinitiv

The US dollar had weakened a little recently, on hopes that weaker economic data might prompt the US Federal Reserve to slow its interest rate rises.

But Mark Haefele, chief investment officer at UBS Global Wealth Management, predicts the dollar will remain in demand.

“We expect the dollar, along with the Swiss franc, to remain supported by safe-haven flows amid uncertainty over the outlook for inflation, Fed policy, and the war in Ukraine.”

Although Fitch are the second ratings agency to cut the UK’s outlook (after S&P), Moody’s was also concerned about the mini-budget.

Moody’s warned last week that the large unfunded tax cuts were “credit negative”, and would lead to higher deficits. It is expected to give its verdict on the UK on 21st October.

UK bond prices are a little weaker this morning, which is pushing up the interest rate on government debt.

Benchmark 10-year government bond yields have risen to 4.08%, from just over 4% last night.

Before the mini-budget, these 10-year gilts were trading at a yield of 3.5%, before Kwasi Kwarteng’s plans for unfunded tax cuts alarmed markets.

They surged to 4.5% last week before the Bank of England pledged to buy up longer-dated bonds to stabilise the markets and protect the pensions industry.

The yield, or interest rate, on 10-year UK gilts
The yield, or interest rate, on 10-year UK gilts Photograph: Refinitiv

The yield on 30-year gilts has risen to 4.26%, from 4.18%. They also rose yesterday after the Bank of England resisted buying any gilts through its emergency scheme, following the recovery in bond prices.

How to avoid a credit rating downgrade

Lowering the UK’s outlook to negative, from stable, could be the first step towards a full-blown downgrade by Fitch.

Fitch say there are several factors that could trigger a cut… or alternatively lead to an upgrade.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

  • Public Finances: Failure to implement a credible fiscal strategy that restores market confidence and is consistent with government debt/GDP declining over the medium term.

  • Macro: Evidence that policy uncertainty and/or new trading arrangements with the EU will undermine the UK’s macroeconomic performance and financial stability over time.

  • -Structural: Political developments that lead to deterioration in governance indicators and/or undermine the territorial integrity of the UK.

Factors that could, individually or collectively, lead to positive rating action/upgrade:

  • Public Finances: Implementation of a credible fiscal strategy that is consistent with government debt / GDP declining over the medium term.

  • Macro: Reduces risks to macro-financial stability, for example, through sustained easing of inflationary pressures and improved market confidence in the government’s fiscal strategy.

Some history: the UK lost its prized AAA credit rating with both Fitch and Moody’s back in 2013, while S&P followed suit after the EU referendum in 2016.

Fitch also downgraded the UK after the Brexit vote (from AA+ to AA), and then lowered the rating to AA- when the pandemic hit.

As the FT points out, the ratings agencies are still monitored by investors:

Credit rating agencies have lost some of their power since the 2008-09 financial crisis, when they failed to warn of the risk in many complex products they had given triple-A ratings.

But their sovereign ratings are still closely watched.

Political uncertainty is also weighing on the UK, Fitch adds.

The new government of Prime Minister Liz Truss has sought to assuage concerns regarding transparency and institutional independence after comments about potential revisions to the BoE’s mandate during the Conservative leadership contest and the roll-out of a large fiscal package without the involvement of the Office of Budget Responsibility.

Reduced popular support for the ruling Conservative Party, the social impact of the cost of living crisis and increased frequency of strikes could constrain the new Prime Minister’s room for manoeuvre.

Polling company YouGov showed yesterday that Truss’s popularity had deteriorated dramatically, while several polls have given Labour very large leads since mini-budget.

Fitch: UK economy to contract next year

Fitch has also warned that Britain’s economy will shrink next year, despite the mini-budget.

We forecast the economy to contract in 2023 despite the energy tariff support and the proposed tax cuts. In addition to the energy crisis and weaker external demand (including contraction in the eurozone), the likely tighter domestic financing conditions will lead to a contraction of 1.0% in 2023 before growth recovers to 1.8% in 2024.

Yesterday, Liz Truss claimed that an “anti-growth coalition” was holding the UK back – including opposition parties, unions, remainers and environmental campaigners (and quite possibly anyone who disagrees with the government).

Fitch, though, points out that Truss’s administration haven’t shown how their growth plan will actually improve the economy:

Although the government seeks to lift growth to 2.5% over the medium term, it has yet to fully outline how and in what timeframe it plans to directly address structural challenges related to low investment, labour supply and continued uncertainty over the implementation and evolution of the Trade Cooperation Agreement (TCA) with the EU.

There could be progress on that last point soon --- Simon Coveney, the Irish foreign minister, is flying to London for talks with his UK counterpart, James Cleverly, today over Northern Ireland’s Brexit arrangements.

Chancellor to hold crisis talks with high street banks over rising mortgage rates

Fitch’s warning comes as Chancellor Kwasi Kwarteng prepares to meet high street bank bosses to discuss the crisis in the mortgage market following the mini-budget.

The talks comes as home­owners face the biggest increase in mortgage costs for 14 years, with the average rate on a new two-year fixed mortgage rising above 6%.

These soaring rates mean some homeowners’ monthly payments are increasing by hundreds of pounds a month when they remorgage, and are also pricing new home-buyers out of the market.

My colleague Rupert Jones explains:

Moneyfacts, a financial data provider, said the average new two-year fixed rate had risen again and broken through 6% on Wednesday. It went up to 5.97% on Tuesday, having already risen to 5.75% on Monday.

The average two-year fix has increased from an average of 4.74% on 23 September, the day of the mini-budget. At the start of December last year the average was 2.34%.

Mortgage costs surged as the money markets dramatically lifted their forecasts for UK interest rates after the mini-budget.

This morning, the money markets suggest the Bank of England will have hiked base rate to 5.5% by next summer, from 2.25% today.

Introduction: Fitch cuts outlook for UK rating to 'negative' from 'stable'

Good morning, and welcome to our rolling coverage of business, the world economy and the financial markets.

A second rating agency has threatened to downgrade the UK’s credit rating, warning that the unfunded tax cuts in Kwasi Kwarteng’s mini-budget will drive up borrowing.

Fitch has cut the outlook on the UK’s AA- investment grade credit rating, to Negative from Stable, following a similar move from S&P.

Fitch warned that the “large and unfunded fiscal package” could lead to a significant increase in the government’s deficits over the medium term, and undermine the previous government’s fiscal consolidation strategy.

In a rather scathing verdict of Kwarteng and Liz Truss’s plans, Fitch says:

The large fiscal stimulus, announced without compensatory measures or an independent evaluation of the macroeconomic and public finances’ impact, and the inconsistency between fiscal and monetary policy stance given strong inflationary pressures, have in Fitch’s view, negatively impacted financial markets’ confidence and the credibility of the policy framework, a key long-standing rating strength.

Fitch also criticises Kwarteng for hinting that there could be more tax cuts, and fears the government’s politicial credibility, and the credibility of its fiscal policy, are both hurt.

Monday’s humiliating u-turn on abolishing the top rate of UK income tax didnt change Fitch’s wider assessment either:

Although the government reversed the elimination of the 45p top rate tax (expected to cost £2bn in FY22-2023), the reportedly negative impact of the tax package, and related financial market volatility, on public opinion and the government’s weakened political capital could further undermine the credibility of and support for the government’s fiscal strategy.

Fitch estimates that “without compensatory measures”, the general government deficit will remain elevated at 7.8% of GDP in 2022 and increase to 8.8% in 2023.

Borrowing will be pushed up by rising interest payments on inflation-linked bonds, household support packages, the energy price cap and tax cuts.

This would lift the UK government debt to 109% of GDP by 2024 from an estimated 101% in 2022, reflecting “both higher primary deficits and a weaker growth outlook”.

Also coming up today

National Grid is set to publish its outlook for both gas and electricity supplies this winter today, outlining how Britain’s power system will cope with harsh weather.

The report comes amid growing concern that factories could be forced to shut down as Vladimir Putin chokes Europe’s gas supplies.

We also find how UK, and eurozone, construction companies fared last month, and the Office for National Statistics releases its weekly economic insights.

The agenda

  • 7am BST: German factory orders for August

  • 8.30am BST: Eurozone construction PMI for September

  • 9.30am BST: UK construction PMI for September

  • 9.30am BST: ONS’s latest economic activity and business insights

  • 12.30pm BST: European Central Bank’s Monetary Policy Meeting Accounts published

  • 1.30pm BST: US weekly jobless claims

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