UK borrowing costs have dropped to their lowest level in more than a year, as investors were encouraged by more stable government finances and the prospect of further interest rate cuts.
The yield, or interest rate, on 10-year UK government bonds fell to 4.34%, down from 4.41%, to the lowest level since December 2024, with the prospect of the UK public finances being put on a firmer footing lowering the risk of holding UK debt.
The fall in UK yield on almost £3tn of UK debt represents a boost for Rachel Reeves, who fought hard inside government before November’s budget to increase the Treasury’s financial buffer and win over international investors who had become sceptical about the UK’s ability to balance its books.
Concerns before the budget triggered a rise in UK bond yields to the highest since 2008 and underlined the importance of the bond markets to Reeves’s tax-raising statement.
Reeves is on course to reduce the spending deficit, which has consistently run above 5% since the pandemic, to below 2% by 2029-30.
European government bonds also fell on Wednesday and borrowing costs remained steady in the US, where markets face uncertainty over the outlook for rates amid a standoff between Donald Trump and the Federal Reserve chair, Jerome Powell.
The prospect of further cuts in interest rates this year by the Bank of England also fuelled bets that UK borrowing costs will fall further than previously estimated. The Bank cut interest rates by a quarter point to 3.75% in December.
Jamie Searle, a strategist at Citigroup, said UK bonds, known as gilts, were “a preferred long for 2026”, and “this reflects two main drivers: a greater scope for rate cuts and a more supportive issuance backdrop”.
Before Christmas, financial markets were betting Threadneedle Street would support only one further interest rate cut this year, reducing the rate to 3.5%.
However, weaker employment and lower inflation are likely to encourage a majority of the nine-member monetary policy committee (MPC) to shave at least another quarter point to 3.25% before 2027, financial markets were betting this week.
MPC member Alan Taylor said in a speech in Singapore that a sharp slowdown in inflation this year would persuade his colleagues to lower interest rates several times.
He said: “Interest rates should continue on a downward path – that is if my outlook continues to match up with the data, as it has done over the past year.”
Inflation figures next week could show a fall in December from November’s 3.2%, bringing it closer to the Bank’s 2% target.