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Gilt investors have told the UK Labor government it may need to increase taxes further if it wants to maintain credibility in the bond market after borrowing costs rose to their highest since the financial crisis.

Chancellor Rachel Reeves has pledged not to repeat the £40bn tax hike in October’s Budget, which many businesses say is acting as a drag on economic activity. But many bond market participants have warned that the UK government should look to taxes to shore up its finances after losing its room to maneuver under self-imposed fiscal rules. .

Mahmood Pradhan, head of global macro at the Amundi Investment Institute, said the UK government “should not be boxing itself in by rejecting tax increases” and that “pledges of spending restraint alone may not be enough to convince the markets”.

A punishing few months in global bond markets, partly driven by the expectation of inflationary policies chosen by US president Donald Trump, sent UK 10-year bond yields to 16 years long and wiped out the government’s wiggle room against fiscal rules. .

On Tuesday, Reeves told Parliament he is “absolutely committed” to sticking to his fiscal rules as he dismissed questions from MPs about whether he would be forced to cut public spending.

The new tax increases would be politically toxic and further weaken Reeves’ political position.

The UK’s 10-year bond yield rose from 3.75 percent in mid-September to a 16-year high of 4.93 percent last week, as a global bond selloff compounded investor concerns that the UK economy is entering a period of stagflation – where persistent price pressures prevent the Bank of England from cutting rates to support a flagging economy.

Ranjiv Mann, senior portfolio manager at Allianz Global Investors, said that any further increase in yields “will increase the pressure on the government to take steps to address the budget deficit in March instead of waiting for the Autumn Budget” .

The government can take “corrective actions”, says Mann, such as a real-term spending cut in so-called unprotected departments such as local government, or extending a freeze personal income tax limits beyond 2028.

Robert Tipp, head of global bonds at asset manager PGIM, said he thought the UK government could be forced by market movements to “give way” to its tax position, rather than relying on spending curbs. “This is a classic example where hope is a bad strategy,” he added.

Peder Beck-Friis, economist at bond giant Pimco, said it was increasingly likely that the UK government would have to address its deteriorating fiscal position.

“We will be surprised if the government does not adjust taxes or spending to fulfill these fiscal rules. . . we expect the government to maintain fiscal credibility and adjust these variables.

There is now a risk, investors warned, that if the government does not continue with a further fiscal tightening, gilts will be sold more as investors build a “fiscal risk premium” in debt.

Reeves stressed on Tuesday that global factors are driving bond markets around the world and reiterated his pledge to hold only one Budget a year.

The government’s Office for Budget Responsibility is due to provide updated economic and fiscal forecasts on March 26.

Recent gains in bond yields, if sustained, would be enough to wipe out the £9.9bn fiscal headroom Reeves left himself with in his October Budget. Some economists also expect the OBR to downgrade its growth forecast to 2025 from the current 2 per cent forecast released in October.

The decline in longer-term growth forecasts will further hit the chancellor’s budget headroom, adding to his fiscal challenges.

Robert Dishner, senior portfolio manager at Neuberger Berman, said that the government may consider tweaking policies such as increasing the cost of national insurance for owners, to reduce its inflationary impact. , and even consider commissioning an external review of the efficiency of government spending.

“There are extra costs? The government might see some savings here or there.”

A Treasury spokesman said: “This government’s commitment to fiscal rules and sound public finances is non-negotiable. The chancellor has already indicated that tough spending decisions will be made, with the spending review to eliminate the garbage that goes on.

Additional reporting by George Parker