Business Maverick


Mr Kwarteng, would you mind joining us in the dunce’s corner?

Mr Kwarteng, would you mind joining us in the dunce’s corner?
Britain's sacked Finance Minister, Kwasi Kwarteng. (Photo: Hollie Adams / Bloomberg via Getty Images)

The UK’s financial high jinks may seem vaguely amusing in a cynical kind of way. Trust me, they’re not. One of the unpleasant little secrets leaking out is how many pension funds in the UK were riding very heavily on very low interest rates.

The joke going around shortly before UK finance minister Kwasi Kwarteng got fired on Friday, 14 October, was that he was having trouble getting a flight back to the UK from the IMF conference in Washington because nobody wanted him near business or economy. 

It didn’t make much difference, though, because UK Prime Minister Liz Truss fired him as soon as he did get back, appointing Jeremy Hunt in his stead.

The question now is whether the UK’s crazy markets will calm down to an ordinary panic, and I think the simple answer is they won’t. Kwarteng may be leaving, but the policies he outlined very explicitly belonged to Truss. Sadly, it turns out that you can’t really signal a major change of policy by firing yourself — although I often think some politicians should give it serious consideration.

In any event, as the leader, you are left in the unfortunate position of having to pretend someone else is responsible. As they say, a greater love hath no political leader than that they lay down the lives of their friends for their own.

But because the fault was so obviously Truss’s in the first place, the chance that she will now enjoy a clean slate from the British financial markets seems unlikely. 

And what exactly is the problem? On the face of it, all Truss did was promise tax cuts, which, if you are a Conservative politician in the UK, is like breathing.

The problem, as a British friend explained to me, is that neither Truss nor Kwarteng seemed ready to acknowledge that the era of easy money is over. That, along with the global reappraisal of the world’s economic position, gave British markets the heebie-jeebies.

Tax cuts are, generally speaking, enormously popular with both financial markets and the general populace. The idea of funding the shortfall with borrowings would normally be viewed benignly when it is possible for the government to borrow at interest rates pegged more or less at zero.

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But times have changed rather dramatically and with interest rates in the developed world at around 10%, the cost of borrowing is now unlikely to be negligible. Kwarteng’s mini-budget, which included some thumping £6-billion expenditure to cap gas bills, didn’t seem to acknowledge this new reality.

Kwarteng was planning to cancel a proposed increase in corporation taxes next April from 19% to 25%. But Truss beat him to it, and reversed the £18-billion corporation tax cut. The problem is that the UK’s bond market was already pricing in a U-turn on the tax cuts, so this decision doesn’t help matters much. The pound, which was rebounding, slipped even more against the dollar on the announcement.

As a South African, it’s funny to hear the British government pay homage to the notion of fiscal constraint. In his resignation letter, Kwarteng wrote: “It is important now as we move forward to emphasise your government’s commitment to fiscal discipline.” As a serial offender in that department, we in South Africa would like to issue a warm welcome Mr Kwarteng as you join us here in the dunce’s corner.

This may all seem very far away from us, and vaguely amusing in a cynical kind of way. Trust me, it is not. One of the unpleasant little secrets that is now leaking out is how many pension funds in the UK were riding very heavily on very low interest rates. At a point this past week, a whole bunch of pension funds were issued with margin calls as long-term bonds in the UK spiked.

Just the idea of pension funds being issued with margin calls is mind-blowing. Pension funds are supposed to be immune to the kinds of issues the riff-raff in the hedge fund business face all the time.

Usually, fly-by-the-seat-of-your-pants stock traders using new-fangled mathematical equations are the ones who face margin calls when things go pear-shaped. Pension-fund investors have long-term obligations and they match those long-term obligations by buying government bonds, called gilts in the UK, and then they go on holiday to Bournemouth for a very long time.

Alas, it’s not as simple as that. Because the UK market is still dominated by defined-benefit funds, it turns out that long-term obligations are hard to satisfy with the meagre earnings you get from government bonds. So most UK pension funds vuka their bond investments with something a bit more risky but which pays off at a higher rate. And that means there is a lot more hot money in the UK pension fund system than anyone anticipated.

As a result, the UK’s reserve bank has been adding liquidity to the market to stop a bad situation from getting worse. But in doing so, its credibility as an inflation-fighting force is now in question. This is a very difficult tightrope to walk, as we all know.

As my colleague Ed Stoddard keeps pointing out, South Africa has an extremely tough-minded Reserve Bank governor in Lesetja Kganyago, who is always getting it in the ear from cavalier, left-wing economists for not loosening South Africa’s monetary policy.

South Africa has lots of things to feel aggrieved about, but a credible Reserve Bank is not one of them. It’s at moments like this that the utility of facing down the fiscal loonies becomes crystal clear. BM/DM


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