The October 2021 Budget brought substantial downward revisions to government borrowing: for the 2021-22 fiscal year, the Central Government Net Cash Requirement (CGNCR) – the borrowing aggregate which forms the basis for gilt issuance – was lowered by £83 billion to £158 billion (to 7.2% of GDP from 10.9%). Public finances data since have shown even greater reductions as higher-than-expected tax revenues reduce the government’s reliance on borrowing, and we now think CGNCR will sit some £30 billion below the Office for Budget Responsibility’s October forecasts.
Yet as we alluded to earlier, that sizeable undershoot looks set to disappear as quickly as it came about as higher inflation forces unforeseen government spending to support households and businesses, higher public sector wages, and a sharp rise in debt-servicing costs. Index-linked bonds account for around £497 billion of the £2.02 trillion gilt stock, and the Institute for Fiscal Studies reckons inflation could add some £11 billion in interest payments for this coming fiscal year alone.
What does all this mean for markets? We’d caution against over-estimating a drop in gilt supply, while some quantitative tightening will add bearish pressure to bonds. From a supply perspective, given the inflationary environment, we naturally expect the Debt Management Office to pull back on issuing inflation-linked gilts so that its debt doesn’t become more costly to service. Finally, we think the government will continue building out the UK’s green bond curve and we are pencilling in some £15-20 billion in green gilt issuance – including a new 20-year note. A number of the key policies and investment plans outlined in the UK’s net zero strategy are fully aligned to the Green Gilt Framework, which provides significant scope for new green issuance in the coming year.