The catalyst for Friday’s market action was a Financial Times report indicating Reeves is no longer planning to proceed with a 2-pence rise in the basic rate of income tax that she had spent the past week preparing. The proposal, which would have breached Labour’s election manifesto, was to be balanced by a matching 2-pence reduction in national insurance contributions. Reports of its withdrawal intensified debate within the governing party and raised questions about how the Treasury will address the shortfall.
Officials at the Treasury declined to comment when contacted on Friday morning. Without confirmation, traders quickly recalibrated expectations, betting that the government will rely on a series of smaller, targeted tax measures rather than a headline change to income tax bands. Market participants warned that such a “patchwork” strategy could require additional gilt issuance, putting fresh upward pressure on yields.
Volatility in the gilt market is already pronounced. Long-dated U.K. borrowing costs have hovered near their highest levels since the late 1990s, leaving Britain with the most expensive debt in the Group of Seven economies. According to analysts, any perception that fiscal policy is becoming less predictable can magnify swings in the bond market, raising overall financing costs for the government.
Interest-rate expectations also shifted. Data compiled by LSEG showed that market-implied odds of near-term Bank of England rate cuts retreated by about six basis points compared with Thursday’s levels. Some investors still anticipate that the central bank could lower its policy rate after the budget if inflation continues to cool, but the latest fiscal uncertainty has tempered that view.
The backdrop to the current debate is a weakening political position for Prime Minister Keir Starmer, whose approval ratings have fallen amid internal disagreements over tax and spending priorities. The apparent rethink on income tax follows days of public and private deliberation within Labour ranks, revealing fault lines between lawmakers focused on supporting public services and those concerned about voter backlash.
Economists estimate that maintaining the existing income tax structure while closing a £30 billion gap will require either cuts to planned expenditures, broader base-broadening measures, or a combination of both. Possibilities discussed in financial circles include freezing additional allowances, modifying capital gains thresholds, or introducing new levies on select industries.
While the specifics remain unclear, market strategists warned that the cumulative effect of multiple smaller tax increases could be just as significant for growth prospects as a single headline measure. Heightened uncertainty may also influence corporate investment decisions, particularly for sectors heavily exposed to domestic demand.
Beyond fiscal maneuvering, broader macroeconomic trends continue to shape the outlook. Economic data released earlier this month showed that U.K. gross domestic product expanded modestly in the third quarter, but inflation remains above the Bank of England’s 2% target. The central bank has signaled that policy decisions will depend on incoming data, including wage growth and energy prices, factors that could be affected by any changes unveiled in the Autumn Budget.
Investors will look for clarity when Reeves presents the budget to Parliament on 26 November. The statement is expected to outline updated growth forecasts, revised borrowing projections and detailed tax measures. Until then, gilt prices and the FTSE 100 are likely to remain sensitive to leaks and political commentary.
For context, the Bank of England’s latest Financial Stability Report highlights the importance of stable fiscal policy in maintaining market confidence, noting that abrupt shifts can lead to “material repricing” across asset classes.
Crédito da imagem: Bloomberg
