Bank warns of ‘significant’ rate rises as Kwarteng says his plan will work

The Bank of England has signalled it is ready to ramp up interest rates to shore up the pound as Chancellor Kwasi Kwarteng insisted he was “confident” his tax-cutting strategy will deliver the promised economic growth.

After a day of turmoil in the markets on Monday which saw sterling slump to a record low against the dollar, the Chancellor sought to reassure City investors he has a “credible plan” to start reducing the UK’s debt mountain.

However, the Bank’s chief economist Huw Pill warned they “cannot be indifferent” to the developments of the past days – seen as a signal the cost of borrowing will have to go up to protect the pound and keep a lid on inflation.

“It is hard not to draw the conclusion that all this will require significant monetary policy response,” Mr Pill said in a speech to the Barclays-CEPR International Monetary Policy Forum.

“We must be confident in the stability of the UK’s economic framework.”

After two days of big changes, the pound settled down on Tuesday, trading at around 1.08 dollars for most of the day, deviating only briefly with a two cent drop.

London’s top stock index, the FTSE 100, was also subdued for most of the day.

But European markets dropped heavily just before close as the price of gas spiked.

The FTSE closed the day down 0.5% on Tuesday afternoon while gilt yields, reflecting the cost of Government borrowing, rose 1.6%, more than a quarter higher than just a week ago.

But with some analysts predicting the base rate – currently standing at 2.25% – will have to rise to as high as 6% next year, some lenders began withdrawing some mortgages amid uncertainty over how far they will rise.

The sell-off of sterling came after investors took fright over Mr Kwarteng’s mini-budget on Friday when he unveiled a massive £45 billion tax cut funded by Government borrowing.

At a meeting on Tuesday with institutional investors, the Chancellor reaffirmed his intention to explain how he will get debt falling as a percentage of GDP in a medium term fiscal plan to be published on November 23 alongside a new set of economic forecasts from the Office for Budget Responsibility.

He also emphasised the importance of the “supply side” reforms ministers will be setting out in the coming weeks, including his “Big Bang 2.0” reforms to further liberalise the financial market regulations, in supporting growth.

“We are confident in our long-term strategy to drive economic growth through tax cuts and supply side reform,” he told them, according to a Treasury readout of the meeting.

“We have responded in the immediate term with an expansionary fiscal stance on energy because we had to. With two exogenous shocks – Covid-19 and Ukraine – we had to intervene. Our 70-year-high tax burden was also unsustainable.

“I’m confident that with our growth plan and the upcoming medium term fiscal plan – with close cooperation with the Bank – our approach will work.”

His comments came amid reports that Liz Truss had initially resisted moves by the Treasury on Monday to announce the new medium term fiscal plan in order to calm the markets.

Government sources did not deny the Prime Minister and Chancellor had met to discuss the issue but insisted suggestions it had been an “argumentative” encounter and descended into a “shouting match” were wide of the mark.

Despite a calmer day on Tuesday, many Conservative MPs remain deeply concerned about the political fallout from the tumultuous start to Ms Truss’s premiership.

It is understood that Mr Kwarteng held a call with Tory MPs alongside Chief Secretary to the Treasury Chris Philp, as the Chancellor sought to settle nerves among colleagues after the market fallout of recent days.

With a YouGov poll for The Times showing Labour opening up a 17-point lead, some MPs who did not support her in the leadership contest have privately questioned whether she is up to the job.

Mel Stride, the chairman of the Commons Treasury Committee, who backed Rishi Sunak for the leadership, said the party’s reputation on the economy was “in jeopardy”.

He said the country was in “an extremely difficult situation” with higher borrowing costs than Italy or Greece and that it was essential to rebuild confidence in the wake of the Chancellor’s “unfunded” tax promises.

“That really I think is the part that has spooked the markets, because those tax cuts have got to be paid for,” he told BBC Radio 4’s The World At One.