Three weeks of market chaos that toppled the chancellor

The market chaos that gripped London, and spilled over internationally, was some of the worst since the early days of the Covid-19 pandemic.

14 October 2022

The pound hit its lowest point in history, the interest rate on Government loans rose to the highest for 30 years, and London’s shares crashed to a 19-month low – all in the three weeks since the former chancellor’s mini budget.

The market chaos that gripped London, and spilled over internationally, was some of the worst since the early days of the Covid-19 pandemic.

It has ultimately contributed to the former chancellor’s downfall and so far forced two U-turns from the Prime Minister.

Traders started twitching three Fridays ago when then-chancellor Kwasi Kwarteng stood up in front of MPs and announced a series of tax cuts that would add up to around £45 billion per year by the middle of the decade.

The chancellor, and his Prime Minister, had been warned multiple times by those in and outside their own party that having major tax cuts without a forecast from the Office for Budget Responsibility would damage confidence in the UK.

But they pushed ahead.

By the time the chancellor sat down, it was already clear that markets were unhappy with what they saw.

– The pound

Sterling started falling as the chancellor spoke on September 23, laying out his plans, but without telling MPs how he would pay for them.

The currency was already struggling against a strong dollar and had been trading at around one dollar and 12.5 cents the day before the mini budget.

It lost 3% of its value against the dollar on the first day, and hopes that the currency would settle over the weekend were dashed as markets in Asia opened on Monday morning.

Sterling fell again, hitting an all-time low of 1.04 dollars to the pound. It remained at low levels for two days.

But an intervention by the Bank of England on September 28 to sure up gilt markets also brought some respite for currency traders.

By the end of that day, the pound had gained to reach 1.09 dollars, and by the end of the week had rebounded to close to 1.12.

It reached it’s post-budget peak after the first U-turn on the budget was announced – the scraping of the additional rate of income tax – hitting nearly 1.15.

– Gilts

Gilts are a kind of Government IOU, where the Treasury borrows money from banks, pension funds and the like and promises to pay them an annual interest on the money, known as a yield.

The lower the yield on these gilts are the lower investors think the risk of the Government defaulting on these loans are. And the lower the yield, the cheaper it is for the Government to borrow.

The yield on the 30-year gilt – one that the Government has to pay back in the early 2050s – had been steadily climbing since the beginning of the year as the outlook for the economy soured.

However things came to a head after the mini budget, with yields rising from around 3.8% to 5% in just three days of trading.

Things got so drastic that the Bank of England started to worry that some pension funds might come close to collapse – they are invested heavily in gilts.

As a result, the Bank reversed its previous policy and promised it would buy up to £65 billion in gilts from the market, to prop up prices.

The yield fell following the news, reaching 3.9% the day after the Bank’s intervention.

But yields started rising once more in the following days, hitting 5.1% on Wednesday this week – the highest since 2002.

It started falling again on Thursday amid reports that the Government was considering a further U-turn.

– Stock markets

London’s FTSE 100 index tracks the 100 biggest companies whose shares are traded on the London Stock Exchange.

By the close of play on mini-budget day, traders had sold off billions of pounds in shares, sending the FTSE down around 2%.

It had been trading at 7,160 points on the day before the mini-budget, but had fallen to as low as 6,844 less than a week later.

The FTSE rallied on the Bank of England’s intervention two weeks ago, and again after the first tax U-turn, but it still reached a 19-month low on Thursday this week.

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