The bond market chaos that rocked Britain in the autumn of 2022 was an inside job – at least according to recent research by the very central bank caught in the middle of the mess. The WSJ’s Joseph C. Sternberg explains:
It’s the story everyone thinks he knows: Hapless Prime Minister Liz Truss and reckless Chancellor Kwasi Kwarteng on September 23rd, 2022, announced a big package of energy subsidies and tax cuts billed as a “minibudget”. The prospect of massive deficit-funded fiscal giveaways by a government already labouring under enormous pandemic-era debts stirred bond vigilantes to action. Yields on British government bonds, called “gilts”, surged and the pound plunged as global investors recoiled from Ms. Truss’s supply-side voodoo.
The myth persists – or rather, is perpetuated by a lazy political and media class – despite obvious holes. Ms. Truss and Mr. Kwarteng signalled for months about the contents of the minibudget. Most of it was uncontroversial energy subsidies, and the bulk of the rest was plans to scrap planned tax increases. The only surprise was the proposed elimination of the top 45% personal income-tax rate, bringing the top rate to 40%. At projected annual forgone revenue of a few billion pounds, this was trivial in a total budget of £1.2 trillion in 2022-23. And the proposed tax cuts were never implemented anyway.
The thing that melted down in response to this fiscal nonsurprise wasn’t “the market”, it was a badly constructed hedging strategy popular among defined-benefit pension funds. These hedges – a response to the Bank of England’s chronic error of suppressing interest rates while tolerating above-target inflation – would have imploded eventually anyway as BOE Gov. Andrew Bailey belatedly joined the battle against rapid inflation. …
This history is worth getting right because, even now, the so-called Truss fiasco is cited as an argument against supply-side policies. Ms. Truss’s Conservative Party abandoned her agenda in the face of a market panic largely ginned up by the Bank of England, and now this episode is being cited as a warning against similar tax cutting in the U.S.
Worth reading in full.
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