Britain’s borrowing costs have surged to their highest levels in decades, creating a fresh test for Chancellor John Healey ahead of his first Budget later this month. Thirty-year gilt yields reached about 6.04%, their highest level since 1998, while 10-year yields climbed to roughly 5.53%, the highest since 2007.

The sharp rise in yields has pushed the UK to the centre of a global bond sell-off, as higher oil prices and geopolitical uncertainty intensify concerns about inflation and public finances. Brent crude rose by about 5% to $105 a barrel, adding to pressure on governments and central banks.

Budget headroom under pressure

Higher gilt yields increase the cost of servicing government debt and could reduce the Chancellor’s room for manoeuvre before the 28 October Budget. Analysts cited in market coverage estimate that the Treasury’s fiscal headroom may have narrowed from £23.6bn to about £11.3bn.

Bank of England governor Andrew Bailey said fiscal policy must be credible and focused on stability as investors demand higher returns from government debt. He warned that pressure for additional spending tends to grow when borrowing costs rise and economic growth weakens.

Economists at Bank of America have forecast that the government may need to raise borrowing by £15bn, adding to the political difficulty of balancing investment plans with fiscal rules.

Inflation complicates the outlook

The bond-market turbulence comes as business activity shows signs of losing momentum. S&P Global’s composite purchasing managers’ index recorded private-sector growth at a three-month low, while services companies reported their fastest increase in prices charged for four months.

The survey attributed the renewed inflation pressure partly to higher energy and fuel costs linked to the conflict in Iran. It estimated that quarterly economic growth was running at only about 0.1%, despite stronger manufacturing orders and an improvement in business optimism.

The combination of weaker activity, rising input costs and expensive borrowing presents a difficult backdrop for companies. Higher gilt yields can feed into corporate financing costs and mortgage rates, while persistent inflation may limit the Bank of England’s ability to cut interest rates.

Markets await the government’s response

The gilt sell-off increases scrutiny of the government’s commitment to its fiscal rules and its plans to support investment. Healey has been seeking to promote industrial growth, including through a proposed £150m Northern England scale-up fund and measures aimed at apprenticeships and regional manufacturing.

Those initiatives may face tougher questions if the cost of borrowing remains elevated. Investors will be watching whether the Budget provides a credible path for debt control without undermining growth at a time when businesses are already reporting weaker momentum.

For the Treasury, the immediate challenge is to restore confidence in the UK’s public finances while shielding households and firms from the effects of higher energy prices. The gilt market’s reaction will be a crucial measure of whether the Chancellor can achieve both objectives.