Jeremy Hunt, markets take Truss on a welcome U-turn

Reality has undone Trussonomics in a few short weeks. Incoming Chancellor of the Exchequer Jeremy Hunt has wasted no time putting his predecessor Kwasi Kwarteng’s tax cuts to the sword. While it’s never a good look for your economic policies to be dictated by swings in the financial markets, a full 180-degree switch was required to draw a line under the crisis that sent UK government borrowing costs into orbit. Prime Minister Liz Truss’s authority, though, is in tatters.
The new chancellor is the grown-up in the room. “The most important objective for our country right now is stability,” Hunt said when announcing his bonfire of the tax cuts on Monday. “Governments cannot eliminate volatility in markets, but they can play their part.” Hunt has met already with Bank of England Governor Andrew Bailey and, tellingly, with the head of the UK Treasury’s debt management office. He knows where the priorities lie. Whether it will be enough, time will tell, but certainly this is the comprehensive U-turn the markets and global institutions such as the International Monetary Fund, and the credit-rating agencies have been calling for.
Sterling is holding onto the gains it’s made against the dollar since reaching a record low on Sept. 26, the day Kwarteng revealed his tax package. In the gilt market, yields have declined after a wild ride, with benchmark 10-year levels back below 4% after reaching 4.6% last week and 30-year yields also well down from their highs.
Since his surprise appointment on Friday, Hunt has torn up pretty much the entirety of Truss’s economic plans, even abandoning a reduction in the lowest tax rate. “At a time when markets are rightly demanding commitment to sustainable public finances, it is not right to borrow to fund this tax cut,” he said. As flagged extensively last week, corporate tax rates will rise next year to 25% from 19%. More announcements, particularly on government spending plans, will come on Oct. 31. There is still work to do with a hole of around £72 billion ($81 billion) to fill, according to speculation about what the Office for Budgetary Responsibility estimates will be needed to balance the books. The measures announced Monday reduce that gap by about £32 billion annually.
The big change unveiled was a much more cost-effective approach to the most expensive part of Truss’s growth package, the energy price cap. While it largely stays in place this winter, with average household annual energy costs kept to around £2500, from the spring it will be recalibrated to benefit the poorest. With natural gas prices having fallen substantially from the peak, this should reduce the overall cost. This is something of a moving target for the OBR to put a definitive estimate on, but will go a long way to restoring confidence in the government’s approach to its finances, and therefore its borrowing.
The clear-up job always takes longer than expected, and this will certainly be the case as the UK’s reputation has taken a hammering. A significant risk premium has appeared not just in government borrowing costs but all sterling corporate debt. Moreover, the BOE will still need to push ahead with another “significant” rise in official interest rates, in the words of Chief Economist Huw Pill. So more pain for UK consumers and borrowers is still to come.
The economy is headed for recession, if it’s not already in one, and the grim outlook has been exacerbated needlessly by the recent bout of self harm. As Kit Juckes, currency strategist at Societe Generale SA, puts it, “gilt yields should fall, sterling volatility should melt away and all we’ll be left with will be recession, austerity, higher rates and a lingering sense that this sterling crisis, more than its predecessors, was homemade and avoidable.”
Still, as former Labour Chancellor Denis Healey’s “law of holes” dictates, “if you find yourself in a hole, stop digging.” Hunt’s swift measures offer a semblance of hope that excavation work has ceased, even if it will be a long climb back up to the surface.

—Bloomberg

Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. Previously, he was chief markets strategist for Haitong Securities in London