UK borrowing falls, but gilt yields hit 5% over VAT cut
Lower-than-expected June borrowing offers little relief for new Prime Minister Andy Burnham, as bond markets push 10-year gilt yields above 5% in response to his government's first major tax cut.
The UK government borrowed £16bn in June, slightly below the £16.3bn forecast and £7.9bn less than a year earlier. The improvement was driven by higher income tax and VAT receipts, alongside a near 30% drop in debt interest payments to £11.8bn.
Despite this monthly reprieve, the broader fiscal trajectory remains strained. Borrowing for the current financial year stands at £57.6bn, which is £2.7bn above official forecasts. Total public debt remains near £3 trillion, roughly matching the size of the entire UK economy.
The delicate state of the public finances was underscored by the market's reaction to Burnham's first major policy announcement. The new prime minister pledged to scrap VAT on household electricity bills from October, funding it by cancelling a digital ID programme. Following the announcement, 10-year government bond yields rose to 5.03% before settling at 5.01%, signaling investor anxiety.
The bond market move highlights the narrow room for manoeuvre facing Burnham and Chancellor John Healey. Healey stated that "fiscal credibility is the bedrock for economic stability and for national security," and both men have pledged to stick to former chancellor Rachel Reeves' fiscal rules, though Burnham said he would use "any flexibility within them". Darren Jones, sacked as chief secretary on Monday, accused the government of announcing an unfunded tax cut.
Economists warned that the modest borrowing improvement does not solve the underlying problem. Ruth Gregory of Capital Economics described June's figure as "a rare piece of good news" for the new leadership, but stressed that "there's no escaping the fact that the public finances are fragile and that there is limited scope for extra borrowing." James Smith of ING noted that the cumulative overshoot against forecasts is "a reminder of the challenges" ahead, predicting "lots of tough choices to be made" at the autumn Budget.
The fiscal picture coincides with a cooling labour market that has direct implications for monetary policy. Unemployment held steady at 4.9%, but regular private sector wage growth dropped below 3% for the first time since 2020.
Yael Selfin, chief economist at KPMG, said this "subdued" wage growth makes it more likely the Bank of England will keep interest rates on hold at 3.75% when it meets next week. She added that "weak hiring activity is continuing to weigh on workers' bargaining power, limiting upward pressure on wages," warning that households face a "renewed squeeze on living standards" in the second half of the year as energy costs rise.
