The idea that bond vigilantes can set government policy suits the City and neoliberal politicians, who'd like it to be true. But is it?
This is the audio version:
This is the transcript:
Are bond vigilantes really in control of how much the government can spend on things like poverty relief in the UK, or similar programmes in other countries, come to that? Is that really true?
If you listen to politicians in the UK, in particular, they would say that it is. They have to keep the bond markets happy, they say, as if we are utterly dependent upon these people to provide the money on which our public services depend. But that might just be their excuse to justify austerity and cuts. Their story is so misleading that it needs to be explored.
Who are the bond vigilantes anyway?
What is this nebulous group of people who apparently exist, who are so determined to ensure that the UK government cannot supply what people in this country want?
They, supposedly, are investors who are willing to trade government bonds in this country to protest about government policy. Their aim is to push up the interest rates on government debt so high that they will discipline the government into doing exactly what they want, which is, let's be blunt about it, austerity by any other name. What they're trying to do is, fundamentally, control the level of government spending by denying the government with cash.
The assumption which both the bond vigilantes, and it would seem the government share, is that the government is utterly dependent upon the financial markets to supply them with the money they need to make good the difference between government income, that is taxation, in effect, and government spending, which has over the last 25 years invariably been higher, and in fact has invariably been higher ever since 1694 when the UK national debt first arose. And, the assumption is that without bond funders' money, the government cannot function. They can therefore impose their terms on the government.
But is that true? I would argue that it isn't. I would, in fact, argue that all the power in this relationship is with the government, and is not with the bondholders at all, and that we need to reappraise this relationship to understand just exactly what is really going on.
Because, let's be clear, in the UK, the government issues its own currency, the pound. It is the only person who's authorised to create the pound. And yes, I do know that commercial banks create money by their lending, but they only do so because they've been licensed to undertake that activity by the Bank of England, which is of course owned by the government and regulated effectively by the government, which means that in effect, all those private banks are simply acting as agents for the Bank of England to create pounds, and therefore, ultimately, the government does literally remain responsible for the creation of every pound that there is in existence.
In that case, if the government creates all the money that we have, and it can never run out of money to pay its debts, precisely because it always has the power to create more money to settle any claim that arises upon it, because that's what owning the Bank of England does for it, then it isn't true, it is in fact impossible for it to be true, that the government is dependent upon bond holders to provide it with money to be able to fund its activities because they must have got their money from the government in the first place, and this is the fundamental truth that is being ignored by everyone who talks about bond vigilantes.
And we know that this argument is true.
We know that the government can create money.
We don't have to resort to all the silly phrases that are used by those who try to oppose this idea. All we have to refer to is the quantitative easing programmes undertaken by the UK government, both Labour and Conservative, after the global financial crisis in 2008, which eventually created no less than £895 billion of new money that was injected by the government into the economy without in effect bonds being issued because the bonds that were created as a consequence were all reacquired by the Bank of England, and therefore they didn't circulate within the financial markets. And, as a consequence, this was an exercise in pure money creation at the end of the day.
The reality was that after that crisis and during the COVID crisis, the government funded itself by, in effect, borrowing direct from the Bank of England, even if the quantitative easing process was used to disguise that fact. And, if you want to understand that in more depth, go and read it up on my blog where I do just that; I do explain it in more depth. But the proof of the pudding that quantitative easing provides is that market dependency is a complete and straightforward myth. It is not true.
In fact, the absolute reverse is the truth. The reality is that the government does not need to issue bonds because it can always create money to fund its activities. It doesn't want to do that on every occasion because if it spends in excess of the amount of revenue it gets, it could create inflation. And so as a consequence, what it did was create the possibility that people who ended up with that excess of government created money could save it with the government, as a result, effectively taking it out of circulation in the economy and therefore preventing it, creating inflation, because that's what savings do. They literally create dead money, which doesn't get used for current economic activity and which cannot, therefore, fuel price increases. So, government bonds were created for the precise purpose of ensuring that an excess of government spending over government revenue did not fuel inflation.
But at the same time, what was created was something which, whether by accident or design, was the safest place to store money, because if you save your money with the one and only agency in the UK who can never go broke because it can always create more currency to settle its debts, it is the safest place to deposit your funds, because they can never go bust and commercial banks can.
And the City of London, and others, know this.
Banks are major users of government bonds to underpin their business activities, in particular, the overnight deposit market that operates in the City of London.
And pension funds use them extensively to balance their liabilities with regard to paying people of my age and older who want an income for life.
And for the same reason, insurers who might insure a risk which is going to last for years use government bonds to provide stability to their financing.
In other words, the City is actually utterly dependent upon the government issuing bonds to ensure that they can undertake their activities.
They don't buy bonds to fund the government, as if that was a favour.
They buy bonds, which the government creates as favour to the City of London, and we have to understand that this is the actual relationship that takes place.
It is the markets who are dependent upon the government and not the government who is dependent upon the market, because bonds are not funding anything.
Remember that the money that is deposited in a bond has already been created by the government to fund its expenditure before it becomes surplus to someone's needs, and they therefore wish to save it, which is why they buy a government bond. So the bond doesn't fund the government. The bond provides a place of safety deposit for the funds already created by the government. Bonds provide the city of London with a secure interest-earning deposit in which they can store money.
And what we see here is the state doing something which is absolutely fundamental and one of its key roles within any society. It is providing stability to financial markets.
As a consequence, this whole idea that markets can somehow discipline the government is, let's be blunt about it, complete and utter nonsense. The reality is, and we have seen this throughout the crises after 2008 and again after the COVID crisis, is that in moments of crisis, bondholders, in fact, always want to buy government bonds because the government is the place of safe deposit, and that is fundamental.
But that fact also gives the Bank of England power over the economy in a way which is quite extraordinary because it can set interest rates, and we've seen that over the last five years.
This chart shows what has happened with interest rates over the last five-year period. When the Bank of England set interest rates very low, as it did in 2020 and 2021, market rates on bonds were very, very low. When the Bank of England pushed interest rates up to try and control inflation, market rates went up.
Now that the Bank of England is beginning to reduce its interest rates, we've got at least stability and some indication that on occasions they might fall, except for the fact that Trump has created instability in world markets. But the idea that there is any discipline from markets on the government being seen in this pattern of interest rates is absurd.
It just isn't there. And we know that's true. We know that governments can control rates because it did it with quantitative easing. The whole purpose of quantitative easing was, in fact, to bring interest rates down to near enough, nothing. That was the purpose, and the government could do this again. At any time if the market's got uppity and said that the government can't do what it's likes, the government could simply buy its own bonds again, just as at this moment, in an attempt to keep interest rates high, which is working and is one reason why the UK has interest rates which are in excess of those that are needed, the government is pursuing a policy of quantitative tightening, which is selling the bonds that it bought during the course of the QE era back into financial markets, even though that is totally unnecessary to fund government expenditure, because, of course, there is no relationship between the value of these bond transactions and government expenditure because government expenditure is funded by the Bank of England, so quantitative tightening is merely an exercise in controlling financial markets. The government is in charge.
In that case, the idea that austerity is imposed by the City is nonsense. Austerity is, in reality, a political choice, an ideology imposed by politicians, but not something that is imposed by the City.
So the reality is that if we had a decent government, they would understand this.
They would also understand that modest inflation is not a constraint on their activity, and might even be welcome.
And they would understand that government debt is not, as such, debt, but it is simply the accumulated savings of people who want to deposit funds with the government because it is a place that they trust. And the government should celebrate that fact and not say that it is a problem.
The real problem for the government is its failure to deliver full employment, because that is the real constraint on growth in the economy. And governments who are focusing on debt do not deliver what is required, which is employment for everybody at a decent living wage.
So, again, if governments understood that this was the goal, they wouldn't obsess about deficits because they're absolutely normal, and in fact are decidedly positive in many cases because they fund the investment that can fuel growth.
And in this case, I do mean they could fund investment because the government could create bonds that were specifically to be used as capital for the purposes of funding infrastructure. It's an entirely realistic goal for them to do. And as a consequence, they would turn savings into something which is a useful financial product, which is a relationship which hardly exists anywhere in financial markets at present.
But, in that case, who's got the power? As I've already pointed out, it cannot be the markets. It is the politicians.
And so, where are we? The time has come for a new narrative. Bond vigilantes are a myth. They're a myth that suits the City of London very well. They're a myth that suits politicians who want to fuel austerity very well. But both those myths are wrong. They are as wrong as the belief that there might be fairies at the bottom of your garden. They are as absurd as that.
What we actually need is a government who understands that they can use their power to influence interest rates, and to impact on the levels of demand within the economy, to also influence the level of savings within the economy, to achieve the goal, which is an economy that serves the interest of the people of this country, including by delivering full employment.
Let's stop pretending that markets are in charge. They aren't. The government is, and it requires politicians who understand that to deliver what we really need in this country, which is a government that puts things right.
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Given the importance of Government bonds I would suggest that if Bond Vigilantes really existed they would be very unpopular to the extent of literally as well as metaphorically being taken down a dark alley late at night.
They are not a “nebulous group of people” as you say. More it is the wider market just refusing to buy a proposition if the returns offered do not reflect the risks undertaken. It is about value. Much the same as a new model of car offered by say VW doesn’t sell well with the car buying community think it is too expensive for what it offers and choose to buy something else instead. If VW dropped its price then more people would buy it just like if a higher coupon was offered on Government Bonds then more would buy it. It is simply a market place with a lot of participants in action.
Do you always write total bollocks that ignores the reality that I explain in the video?
There is no risk in buying gilts hence your comment is untrue.
I assume the “risk” to which you refer is the mythical risk that the government could default? The British Government has never failed to make interest payments or principal payments on gilts as they fall due. There is no risk as Richard explained.
Or perhaps you refer to the risk of inflation? To be true his would require that the inflation rate was correlated to the total value of gilts outstanding? Then it might be fair to say that an increased total of gilts requires a higher return. But since government debt has consistently increased for hundreds of years, and yet inflation has not consistently increased, this also untrue.
What actually happens is that the Bank of England pays interest on bank reserves. And the BoE sets that interest rate. If the government (foolishly, and wholly unnecessarily) then wants to sell gilts it has to match the BoE rate, otherwise it is better for banks (and others, more indirectly) to maintain large reserves (or other investments). So, as Richard said, the payments on gilts are set entirely by the BoE.
This is quite unnecessary. The government do not have to sell gilts to fund their deficit. It is wholly a political choice. They could, instead, borrow directly from the BoE (and they do). Government borrowing from the BoE incurs no net interest since they own the bank (they may pay interest but the BoE pays it straight back to the government).
Anyone looking at Japan can see that they can control the yield on their government bonds, at all maturities, by buying of selling bonds. Traders that have bet against the Japanese governments ability to control their bond yields have consistently lost money, hence the nickname “the widow maker trade”. Incidentally the Japanese government debt is about 235% of GDP. This is the highest ratio among developed and advanced economies. Japan has never defaulted or experienced a major fiscal crisis since 1950. That’s because total government debt, per se, is not important. Look at the evidence.
All sovereign governments, those with their own currency like the UK, US, Canada, Australia, and many others, could directly control their bond yields if they chose to do so. They only reason they don’t is because they seem to believe the neoliberal derp that you, @Jean Jacques Burnell, are espousing. It is nonsense and, as Richard says, you are, at the very least, mistaken.
Thanks
The real conservative messaging on this is that the markets generally, and bond markets in particular, are all-knowing gods. Not only that, they are Old Testament style gods who look down on mortals and punish them if they stray from the righteous path, thereby disobeying the gods. It’s an example of conservative strict father morality
The truth, of course, is, they are not all-knowing, they are not gods, they are often very naughty boys, some of them barely out of short trousers. They are people in financial institutions including pension funds and banks and, not necessarily mutually exclusively, spivs and speculators, a majority of whom have conservative economic views and follow them almost as blindly as conservative politicians. Their primary aim though is to make a profit and for the spivs & speculators among them, a quick profit, and they don’t care about the consequences.
Weak politicians are usually a pretty good way for them to make a fast buck because they can be pressurised into changing policy, it doesn’t matter whether the policies are good or bad or indifferent, there’s potentially money to be made, short selling, on forcing policy change.
but don’t some bond “vigilantes” use money created by OTHER governments to buy UK bonds?
So they inflate the value of sterling? The bastards….
And if the bond “vigilantes” have no power, how do we explain the Truss incident, and, more importantly, avoid it happening again?
I have explained this many tikmes.
Truss did not create the reaction. The Bank of England did by announcing quantitative tightening.
They only get power when government refuse to use their own.
Truss was clearly a weak and incompetent PM, the markets weren’t really that offended by her policies, they like the idea of rich people paying less tax, but some of them saw a chance to make a quick buck out of a weak leader.
The market reaction to her budget, which was not a surprise to them, she had made it clear what she intended to do, was not really that strong, a bad day but not a total disaster and other factors fed into that bad day, the BoE ‘s failure to increase base rate as much as expected 2 days before and its QT programme.
What happened next though caught, just about, everyone by surprise. It turned out through use of LDI’s that pension funds had effectively been betting on the price of gilts, using their own gilt holdings as their stake. When the price in the secondary market fell they had to cough up on their bet (Margin calls) by selling some of their gilts causing the price to drop further which, of course, created more margin calls on their bet, a potential doom loop.
The simple solution to this was for the BoE to buy up all the gilts they were selling to stop the doom loop, as it was the BoE was quite slow to react and very half-hearted in its messaging but it did respond just enough to stop it.
You get it
Thank you and well said, Richard.
This nonsense goes back to 1992 and the emergence of Clintonism, which influenced Blair. Clinton’s political advisor, James Carville, said: “I used to think that if there was reincarnation, I wanted to come back as the President or the Pope, or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”
Carville is known as the “ragin’ cajun”. As a Creole, I know Louisiana well. Let’s just say that Carville has exaggerated his Cajun background.
As with Mr Bill, as Jesse Jackson used to call him, and Carville, their record, other than winning elections and making Wall Street happy, were terrible for ordinary people, leading to NAFTA (“that giant sucking sound”, according to Ross Perot, of jobs going to Mexican maquilladoras), the loss of the House in 1994 and Newt Gingrich’s “contract on, not with, America”, the repeal of the Glass-Steagall Act (repealing the 1933 firewall between retail banking and trading, 1996), China’s admission to the WTO (so Wall Street could get a cheaper alternative to Mexico) and the Commodities Modernisation Act (preventing the regulation of swaps and derivatives, weapons of mass financial destruction, 2000).
Thanks
I should have concluded that the loosening of rules by Thatcher in the 1980s and Clinton in the 1990s, the architecture of the Euro allows capital markets sway, and lobbying and bribery by Big Finance give the impression that Richard is trying to counter.
Around 2010, before the election if memory serves, my manager and I went to the Treasury. As we waited at reception, a delegation from Goldman Sachs was ahead being signed in. The official meeting us arrived a bit after to get us signed in, apologised for the traffic jam and said the Goldman team has a monthly catch up with Treasury ministers and officials.
I wondered if unions etc. did. I doubt it. I also doubt unions are interested.
A decade later, I was invited to address Islington Labour Party by a friend, former colleague and party official and talk about the City. When I mentioned that anecdote as an example of the unhealthy relationship between the City and Westminster, I was shouted down, including by two prominent journalists, for anti-semitism. Go figure.
Hello Colonel
Didn’t Goldman Sachs go bust in 2008?
Only technically
oh definitely one for the archives
(perhaps the two journalists had missed their medication?).
Richard, thank you for a concise and clear explanation. May I suggest that we also need some competent financial and political journalists to stop the politicians from peddling the ‘bond markets’ nonsense by challenging them rather than acting as mere nodding donkeys?
We do, indeed, need such people.
Thank you and well said, Martin and Richard.
This is where experts like Richard, Gary Stevenson, Mike Parr etc. should be mobilised as a rapid rebuttal unit with some easy to understand messages that can go viral soon after BS is spouted by the usual suspects.
That needs comms assistance….
Aye, I couldn’t agree more. We instead have the chief neoliberal propagandist *sorry economics editor* at BBC news in Faisal Islam.
Thank you Richard, this is such a good explainer. Although I like to think that I’m reasonably well educated, I knew sweet FA about economics (I still don’t know much) until I started reading things like your blog, Simon Wren-Lewis’ blog and more recently listening to Gary Stevenson.
I suggest that economics should be on the national curriculum so that politicians can no longer gas light us on the economy.
Thanks
Very good.
Except “This chart shows what has happened with interest rates over the last five-year period.” What chart?
Apologies: added now
The key issue is who rules?
A small circle of men concerned with their short term gain OR
a democratically elected government charged with the welfare of the nation?
The latter might be incompetent at the moment, but the conclusion is clear.
This is a post that goes in my omnibus bookmarks. It’s the first one (on bonds), that has made it there – because it is so clear.
KUTGW!
A dark part of me is now wondering how to kidnap every MP, and financial editor, and force them to read it and admit, on the record, on pain of being forced to listen to all of Keir Starmer’s speeches back to back, followed by all of Liz Truss’s speeches (for balance), that they have been lying to us for decades.
But honest, I won’t do it, not really. That’s a pledge.
Bullies don’t like being stood up to. They generally run away screaming for their mummies. We need to stand up to these City bullies.
Thanks
Good article. Could someone please explain to me why I often read and hear, the statement that government “borrowing” costs are going to increase when the value of a bond (as shown in Richard’s FT snip) has increased. My understanding is that this value of the bond (as in the FT snip) is what it would cost to buy on the secondary market, whereas governments sell bonds (i.e. “borrow”) on the primary market. I’m sure there must be a link between the cost of bonds on the primary and secondary markets, but from my observations the value of bonds on the primary market is less than the secondary market. Therefore, showing the value of a bond on the secondary market and saying government’s costs have increased is misleading. Also, the yield (i.e. interest) on bonds sold by the government (on the primary market) is directly affected by the Bank Rate at the time of the bond auction, and nothing to do with the yield that may be obtained on the secondary market – or am I mistaken?
The realtionships are different for new issues and bonds in issue
And I am sorry, but I just don’t have the energy for that now
Mathew – here’s an answer to your question from perplexity.ai: https://www.perplexity.ai/search/c03fddb0-436f-4512-9c09-b687d433cff6
Am I correct in thinking that if governments did not sell bonds then the purchasers of such bonds would have to invest in some other commodity such as gold, real estate, stocks etc. Wouldn’t this lead to rampant inflation of these commodities as a result which, in the case of real estate (as it is currently structured in the UK i.e. mostly privately owned), would be disastrous for society?
Yes.
So, we provide bonds.
They are key.
But they key thing is, the City needs them
Not sure my thought process is correct but say, hypothetically, we had a government that had grown a pair and faced down the City/bond vigilantes and this resulted in capital flight would there be any perverse consequences to this and what could the government do to mitigate them?
Nothing
It won’t happen
At this point I’m struggling to see _why_ commercial banks even exist! Genuine question, what’s stopping us from just nationalising the banks altogether?
The state does not want to take the lending risk
Thank you to Sue H, above.
Goldman Sachs went bust in 1933 (bailed out by the founding family), 1994 (bailed out by Sumitomo Bank and Kamehameha trust) and 2008 (bailed out by the US, UK and Irish taxpayers).
I have been using ChatGPT to investigate Thames Water. The National Loan Fund came up in one of its responses and I asked ChatGPT to explain the NLF. Its answer was interesting:
Since the UK abandoned the gold standard (and then Bretton Woods in 1971), it has had a sovereign fiat currency. This means:
The government does not need to “save up” money before it can spend.
All government spending — including loans from the NLF — is ultimately backed by the ability of the state to create money through the central bank and the Treasury.
So when the NLF “lent” money to a body like Thames Water Authority:
The government was effectively crediting the Authority’s account at the Bank of England (or clearing banks).
These credits created financial assets for the RWA and liabilities (in accounting terms) for the state.
It was tracked as a loan, but it didn’t come from tax revenue or savings — it was new money, in modern terms.
The logic of this is completely correct.
” And the government should celebrate that fact [of government debt ] and not say that it is a problem”
£100m a year and counting in interest payments – more than the budget for everything besides the NHS – is a problem.
Tell me why?
Precisely
All the explanations please, and most especially, why are you so keen to deny pensioners an income stream?
It’s certainly a problem if you believe in fiscal rules (LOL), or some form of fiscal responsibility at least.
The debt interest burden is high. If seen as merely an income for pensioners the amount must be added to the large and ever expanding payments for state pension. A heavy burden on the young, financing the old.
I think you would argue that the state can issue much more debt, if not an infinite amount? Enough to flood the NHS, social care, pot holed roads, crumbling schools, the armed forces, policing, prisons, the justice system, nationalise the water companies, foreign aid, etc etc with cash to sort out all the problems.
Ignoring any bond vigilantes, the problem is there would not be enough demand for the bonds. Bond auctions would go unfilled. We could be getting pretty close to that point now. Investors start to doubt the government; especially with headstrong leaders like Trump. The safehaven US treasuries were recently downgraded. Governments of the rich nations might not default, but they might start to think about devaluing their currencies.
We could possibly do more under a reconstituted global financial system. Britain couldn’t go it alone.
This makes literally no economic sense and indicates a complete lack of understanding of macroeconomics.
It also suggests you ignored everything I said, so why did you comment?
Trolls are not welcome here.
Sorry to go back to an older conversation, but this one seems reasonably relevant to the email I’ve just sent to my local MP, which I thought you might like to see.
Dear Ms Sabine,
There is currently a great deal of controversy surrounding the Government’s spending review, compounded as it is by calls for a substantial increase in Defence expenditure. I am writing as a constituent to raise a concern about how government borrowing and spending are understood and discussed, both in Parliament and in public life. It seems to me that the current framework used to explain these issues often obscures more than it reveals.
There is a widespread public belief that government borrowing is akin to household borrowing — that the government “runs out of money” and must borrow from private investors to fund its spending. This idea, while intuitive, does not accurately reflect the operational reality of a country that issues its own currency and controls its central bank.
In practice, government spending is not constrained by the availability of borrowed funds in the way private spending is. The state creates money when it spends, and borrowing through bond issuance plays a different role — helping to manage interest rates and liquidity, rather than funding expenditure per se. These are technical truths that rarely feature in political debate, yet they are vital for understanding the nature and consequences of fiscal policy.
A more informed public conversation is especially important now, when annual debt interest payments are significant and frequently cited in justifying cuts to public services. What is not often made clear is that a substantial portion of those payments is effectively circular — returning to public institutions like the Bank of England — or paid to financial institutions in the form of interest on reserves, which was never part of traditional government borrowing.
This disconnect between economic reality and public perception leads to poor accountability and limits the policy choices available to government. I believe we need a more transparent and accurate public narrative about how government finance actually works — one that reflects the role of monetary institutions, the distinction between real and financial constraints, and the long-term implications for investment in public goods.
Would you be willing to raise this issue with the Treasury or relevant select committees? In particular, I would support a review of how fiscal data is presented, and how Parliament and the civil service could help improve public financial literacy in this area.
Thank you for your work on behalf of our constituency.
Yours sincerely,