New UK Shadow Chancellor Rachel Reeves had a very rocky week. This may explain why the UK government recently backtracked entirely on its proposals to save billions of pounds through welfare reform. However, this decision has left her fiscal plans with a nearly £5 billion black hole. Despite these challenges, Prime Minister Sir Kier Starmer publicly supported Reeves during Prime Minister’s Questions, stating she was “doing an excellent job as chancellor.”
On Wednesday, Reeves attended Prime Minister’s Questions where she became emotional, shedding tears while discussing her role and the pressures surrounding her. Such a situation further reflects the bigger fears and insecurities in the capital markets. Analysts have become more and more concerned about the lack of fiscal discipline in the UK. Mohamed El-Erian, president of Queens’ College, Cambridge, described the resulting fraying and unease in the capital markets. As chief economic adviser at Allianz, he measures this tension on the ground. He cautioned that Reeves needed to remain independent. If she does go, it will be a serious blow to any hopes for fiscal discipline.
El-Erian stated, “I think the markets are concerned that if the chancellor goes then any fiscal discipline would follow her out the door and that would mean bigger deficits.” This very real sentiment points to the need for stability in the chancellorship in light of continued economic headwinds.
In a separate but equally alarming development, the yield on UK 10-year bonds fell below 4.53%. That drop comes on the heels of a 4.61% closing rate for U.S. This modest decrease is a sign that investor fears are beginning to subside. It probably has to do with the government’s choice to stop cuts to welfare.
The pound is gaining ground, rising to $1.3668. Whatever the reasoning, the recent rebound is a testament that investors are already starting to gain confidence with the UK’s economic leadership. Will Walker Arnott, head of private clients at Charles Stanley, remarked on the unique relationship between financial markets and political careers. He described the current situation as “a rare example of financial markets actually enhancing the career prospects of a politician,” referring to how Reeves’ handling of fiscal matters is being perceived positively.
One analyst, who spoke to the BBC, expressed similar sentiment. They noted that financial markets appear to be rewarding Reeves for staying the course. The analyst warned that her departure could break the fiscal discipline that is now key to the difficult task of managing the UK’s long-term economic fortunes.
El-Erian was optimistic that the market has started to stabilize. That’s misleading, as it’s unlikely to come back to anywhere near where it was before. He cautioned, “The minute you put a risk premium in the marketplace, it’s very hard to take out,” suggesting that the current economic climate will require continued vigilance and responsive leadership.