Central Bankers’ comments cause bond yields to rise

July 4, 2017

A string of comments from central bankers led to widespread selling in global bond markets last week, spilling over into equities. The remarks from Mark Carney, Janet Yellen and Mario Draghi of the Bank of England, Federal Reserve and European Central Bank respectively, made investors believe that monetary policy will begin to tighten (or become less loose) faster than expected. Reduced quantitative easing and potentially higher interest rates have made bonds at their current levels less attractive, notably shorter dated securities. In the UK the 2 year gilt traded above the Bank of England base rate, implying that investors are anticipating an interest rate rise in the near future.

The higher tax take enjoyed by the UK government over last month has had a negative impact on the savings ratio. This is the amount of money saved out of disposable income for a nest egg or retirement. The rate has fallen to 1.7%, the lowest since records began, as individuals continued to use savings to fund consumption. A low savings ratio will make the UK economy more susceptible to an economic slowdown, whether it originates domestically or internationally, as households will have less to fall back on in the event of lower incomes or higher unemployment. However, a lower rate of saving will also be a function of an increasing retired population, which is drawing on pension savings to fund retirement, and therefore generating a negative contribution. This trend is likely to continue as the proportion of the population over the retirement age rises.

The government is under increasing pressure both externally and internally to remove the public sector pay cap. It is currently set at 1% for all but the lowest paid public sector workers, applying to around 5 million employees. The sector employs around 15% of the total workforce and if the cap were to be lifted, there could be a welcome increase to the aggregate wage growth. If public sector pay was increased in line with the private sector (2.3%) there would be a 0.2% increase in UK wage growth. While this is not a significant increase it goes some way to eroding the negative real pay growth that has now been occurring for several months. However, the difficulty will be finding the space in a budget which has an increasingly long list of demands for funding.

Index Open Close Change % Change
FTSE 100 7424 7312 -112 -1.51%
S&P 500 2438 2423 -15 -0.62%
Dax 12733 12325 -408 -3.20%
Cac 40 5266 5120 -146 -2.77%
Nikkei 225 20132 20033 -99 -0.49%
UK 10 Year Gilt Yield 1.03 1.257 0.227 22.04%

US non-farm payrolls and unemployment rate for June will be released on Friday along with the UK trade balance for May.