HAMISH MCRAE: Savers rescued by might of the markets

HAMISH MCRAE: By allowing inflation to rise, governments have effectively stolen money from savers – markets have come to the rescue

It was fast, brutal and effective. And it shows you where the power lies in the world. Financial markets decided that UK economic policy needed to be changed as they would not fund the increased borrowing proposed by the Liz Truss government at an acceptable rate. So they forced her to change it. They also forced them to sack their chancellor, Kwasi Kwarteng, and maybe – who knows? – will in fact also end her position as Prime Minister.

This is for the future. What we now know is that both of the great quotes from James Carville, Bill Clinton’s election-winning strategist, are true. The more famous one is “It’s the economy, fool”. If Liz Truss’ government does fall, it will be her handling of the economy that will deal the final blow.

The other concerns the bond market. He said: “I used to think that if there was reincarnation, I wanted to come back as a president or a pope or a 400 baseball batter. But now I want to come back to the bond market. You can intimidate anyone.”

Well, that was true when he said it in the 1990s, but since the financial crash of 2008-09 it actually wasn’t true anymore. The impact the bond markets had on everyone was that when governments or companies needed to borrow, they had to do what the markets wanted or they wouldn’t give up.

But after that crash, central banks invented the twin ideas of near-zero interest rates – below zero in Europe – and quantitative easing. When governments needed money, they had central banks print it.

That’s history now. When I was studying economics in Dublin in the 1960s, I was told that if central banks printed too much money, inflation would lead to inflation. I was also taught that delays in economics are uncertain and can be very long.

In this case, inflation has taken a decade to take hold – but it has done so with a vengeance over the past year. The result? The bond markets have regained their strength. And on Friday they used it. You may want more blood. When news broke that Kwasi Kwarteng would be sacked, the pound rose and, more importantly, the yield on 10-year gilts fell below 4 per cent.

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For a few minutes, it was down to 3.95 percent, just a hair’s breadth from the US Treasury equivalent. Then the news broke that the new chancellor would be Jeremy Hunt and the rate rose back above 4 percent and at Friday’s close it was above 4.31 percent. While US interest rates also rose, the point is that the gap between US and UK yields had widened. So the markets are far from calm.

For many people, the fact that these anonymous things, markets, are so powerful will be unsettling. What right do they have to dictate policy to elected politicians in established democracies? I see it a little differently, because they represent the collective interests of the savers of this world – ordinary people who save money for old age, for their children, for emergencies.

And they use those savings to invest in projects and companies that pay dividends, whether it’s governments investing in roads and hospitals or companies developing new vaccines.

By allowing this surge in inflation, governments have effectively siphoned money from savers, including from their pension funds when that money was heavily invested in bonds.

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Markets, of course, are imperfect, and don’t idolize them. It’s easy to say that they offer important scrutiny to governments that take financial risks with taxpayers’ money.

What has happened in recent weeks may seem very bad news to politicians who have been reminded of the limits of their power. But this is certainly good news for savers.

I don’t know what’s going to happen to this government and it would be a shame if their sound ideas for boosting growth are thwarted by their macroeconomic stupidity. I’m also concerned that investors are in for a tough few months. But I have a feeling that financial discipline is being re-imposed by the global bond market heavyweights.


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