High borrowing costs, but business optimism may be on the rise….
Today we discuss the latest changes in the economy, including how the UK’s borrowing costs are at an all time high, but there are glimmers of optimism.
Bonds, oil and AI
Andy Burnham’s first visit to take Prime Minister’s Questions in Parliament came just as the country’s 10-year borrowing costs rose to levels only seen during the credit crisis. Even worse, the yield on a 30-year gilt hit 5.89%, the highest level since 1998.
While Mr Burnham sought to reassure political opponents and the City of London that his government would maintain fiscal responsibility, pointing out that Britain was cutting its deficit faster than any other G7 country, the effective cost of borrowing is likely to grow.
For companies and households, it could be bad news. Mr Burnham did not rule out more tax hikes in the upcoming October budget, if only to maintain current government expenditure. That doesn’t include the demands to increase defence spending.
And as far as bond buyers are concerned, debt levels stand at 98.2% of Gross Domestic Product (GDP), their highest since 1960. That makes them nervous.
But what has spooked the market is more systemic. Debt levels in the US are at 120%, and many countries in the EU see debt levels in excess of 100%.
And the UK can no longer rely on the domestic pensions industry and insurers to be the buyers of gilts. In 2000, nearly 70% of gilts purchased were bought by this sector. It has fallen to around 20%.
The global reality is that borrowing costs in US, Japanese and European bond markets have seen multi-decade highs in market interest rates. In other words, investors have a lot of choice when buying government debt and the interest rates they get. They’re also getting pickier in assessing macroeconomic risk.
There’s also more competition for the cash to buy the bonds.
Andrew Bailey, the governor of the Bank of England, has already warned G20 finance ministers that Artificial Intelligence (AI) could cause a global economic downturn.
Apart from the cybersecurity risk to financial systems, he acknowledged that AI and AI-related projects have been sucking money from investors at levels not seen before. Much of this investment has come from credit markets and debt for financing.
These investments have also produced over-priced stock markets at levels not seen since the dot.com crash, increased levels borrowing by both retail and institutional investors along with huge concentration of money into a small number of major technology companies.
All are elements of global economic risk.
What may be of more immediate concern though is the pressure on inflation. Periods of inflation result in interest rate hikes.
The conflict with Iran has so far had little impact on the UK. Expected oil price rises haven’t been fully realised as China has reduced demand, and other producers have increased production.
The closure of the Strait of Hormuz is expected to begin to bite though, and affect UK energy prices.
North Sea Gas prices have more than doubled this year. The UK gets about half of its gas from the North Sea, with the rest from Norway and the USA. Currently, the price of natural gas in Britain is eight times higher than in the USA.
With rising energy costs, inflation will again go up, followed by interest rates.
Of course, times of uncertainty also create opportunities. However, these economic signals suggest businesses should plan for the potential of higher costs and borrowing costs.
If you need any help with forecasting costs or if there are ways to reduce your borrowing costs, please contact us. We’d be happy to help you.
Business optimism rises, sort of
The media’s ‘Burnham Bounce’ seemed absent from the latest Institute of Directors (IoD) Economic Confidence Index. Fewer than 24% felt optimistic that Mr Burnham and his new cabinet would improve either their business outlook or that of the UK.
One standout statistic was the proportion of respondents concerned about climate change and extreme weather events. This has more than doubled, rising to 17% from 7%.
While the August survey showed overall optimism rising slightly for the UK’s prospects, the view was more negative for their own business. The Index measures business leader optimism with underlying indicators showing modest improvements across the board during the month.
- Revenue expectations increased.
- Headcount expectations were little changed.
- Investment intentions improved slightly.
- Export expectations remained stable.
- Cost expectations remained elevated.
Despite an improved level of confidence, the impact of the new Prime Minister and Cabinet on business leaders’ optimism was in negative territory, with over 76% believing there would be no change or had a pessimistic view of the change.
When asked about the factors holding back business growth and investment, business leaders overwhelmingly pointed to uncertainty. Tax uncertainty (58%), general policy uncertainty (55%) and demand uncertainty (40%) were the most frequently cited barriers. Weak expected demand (27%) and labour and skills shortages (23%) also featured.
Among the factors harming businesses (asked quarterly):
- UK economic conditions remain the most significant factor impacting business (selected by 73% of survey respondents, down from 75%).
- Concerns about taxation increased sharply, with employment taxes rising to 62% from 54%, and business taxes rising to 56% from 47%.
- Compliance with government regulations (40%, up from 35%) and the cost of energy (38%, up from 35%) both overtook global economic conditions (36%, down from 43%) as sources of concern.
Several areas of risk saw notable increases in pessimism. Citations of misuse of artificial intelligence rose to 36%, from 29% in May, while concern about a global trade war increased to 31%, from 24%.