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Journalism of Courage
Exactly three weeks to the date Kwasi Kwarteng presented the “mini-Budget” as Chancellor of the Exchequer, Britain’s Prime Minister Liz Truss has sacked him. He was replaced by Jeremy Hunt — the fourth chancellor just this year. The slide started with Rishi Sunak resigning from the Boris Johnson cabinet in July.
In 1979, with an economy in recession and widespread unemployment, then PM Margaret Thatcher, under attack from all sides, gave an iconic speech, memorable for her statement, “This lady is not for turning”, as she refused to budge from her agenda to liberalise the economy.
In sharp contrast, Truss, who has tried to present herself as a modern-day Thatcher, announced an almost complete abdication of her agenda.
In an unexpectedly brief press conference on Friday afternoon, Truss answered just four questions from a room full of journalists — all asking why she deserved to stay when Kwarteng had been sacked for essentially announcing a path that she rolled out in the lead-up to winning the Conservative leadership contest against Sunak. In response, Truss gave no real answers.
But before taking the questions, she announced that she would be reverting to Sunak’s plan of raising the corporate tax from 19% to 25%, aimed at raising revenue for the additional spending. This is expected to dent the UK’s attractiveness for companies — a key metric in the post-Brexit world — as its tax rates will be one of the highest among developed nations, and the highest in Europe.
Truss, who is yet to complete six weeks in office, said that she wants to deliver “a low tax, high wage, high growth economy” and while “that mission remains”, it is clear that “people across this country rightly want stability”, and that “parts of the mini-Budget went further and faster than markets were expecting”.
It all started on September 23 when Kwasi Kwarteng, a long-time associate of Truss’s, presented the new government’s mini-Budget. The idea was to act on Truss’s bold new vision to make a “fresh start” and put the UK on a high growth trajectory — a set of policy choices that Sunak had repeatedly warned against. In essence, Kwarteng increased spending — placing price caps on energy bills — while also cutting tax rates, especially for the richest income earners.
The completely unfunded and sharp increase in spending spooked the markets (read investors). That’s because the UK was already struggling with historic inflation. More spending by the government made things worse in two main ways.
One, it left people with more money to spend at a time when inflation was already high and the Bank of England was trying to contain it by raising interest rates and curbing spending. Two, it meant that the government’s total borrowing would rise sharply at a time when growth prospects have been iffy at best and Britain’s past record, at least since the 2008 financial crisis, has been of economic stagnation.
As investors lost confidence in the government’s ability to repay, they started dumping their UK assets, especially government bonds (gilts), which are essentially the way a government borrows money from the market, and the pound sterling.
The sale of gilts pushed down their prices and, as a consequence, raised their yields (which is the interest rate a government pays to its lenders). Rising gilt (which is the safest asset in any economy) yields signalled a sharp increase in all kinds of mortgage rates, including for millions of home loans.
It also caught pension fund managers, who had hedged against such a sharp rise in interest rates, asleep at the wheel. Pension funds found that the prices of gilts in which they had invested were falling sharply.
Panicky market players created a not-so-mini financial crisis that required the Bank of England to abandon its plan of curbing inflation and step in to buy gilts (which raises their prices and pulls down their yields). But this help was set to end on Friday.
Truss is facing extreme pressure from her political opponents both inside and outside the Conservative party, and the markets.
The latter’s reaction is always more readily available, and it suggests more turbulence ahead. The yields of 10-year, 20-year, and 30-year gilts all shot up while the pound wobbled even as the PM tried to extricate herself from the press conference.
Not having a convincing answer to why Kwarteng had to go for voicing her plan while she deserves to stay may prove critical to Truss’s political future.
