UK exceptionalism on high borrowing costs driven by ‘sticky’ inflation and a reliance on the ‘kindness of strangers’

The UK now has the highest borrowing costs of any rich OECD country, despite its middle-of-the-pack debt position, due to ‘sticky’ inflation and a borrowing-cost premium driven by our vulnerability to changes in the whims of international investors, according to new Resolution Foundation research published today (Friday).

The Foundation’s latest Macroeconomic Policy Outlook notes recent moves in gilt yields have put UK borrowing costs back in the spotlight. While much of this is overblown – the 27-year high in 30-year gilt yields is less important for government borrowing and rises reflect lower pension-fund demand – the UK’s benchmark 10-year government borrowing costs have risen to the highest of any OECD rich country.

This has led our debt-servicing costs to quadruple to £105 billion a year since 2020-21, while the increases since the last OBR forecast period in early 2025 will raise forecast borrowing in 2029-30 by around £4 billion if sustained.

These high costs feel particularly unfair given the UK does not have exceptionally high levels of government debt (marginally above the OECD average of 85 per cent of GDP).

Instead, the report finds that the principal cause of the UK’s high borrowing costs is ‘sticky’ inflation, which has in turn increased policy-rate expectations. The UK now has the highest inflation rate in the G7 at 3.8 per cent, and higher medium-term interest rates expectations than either the US or euro area (3.3 per cent, 3.1 per cent and 2 per cent respectively).

Another upward driver of borrowing costs is the sensitivity of UK gilt yields to changes in global investor sentiment. This likely reflects our reliance on foreign investors, as well as concerns about UK public finances, say the authors. Further destabilising volatility, either at home or in the global markets, risks pushing UK borrowing costs further.

The report also finds that the Bank of England’s QT programme – which has seen the Bank of England reduce its holdings at a rate of £100 billion a year since 2022 – is also pushing up gilt yields.

The UK’s high borrowing costs are causing a major fiscal headache for the Chancellor ahead of her Budget on 26 November. But policy makers can do more to bring those costs down.

First, the Chancellor should allay concerns about rising borrowing by increasing the headroom against her fiscal rules in her Budget from its current low margin of £9.9 billion. Policy measures should also avoid adding to the UK’s sticky inflation problem and instead seek to ease cost of living pressures for families.

Second, the Bank of England should slow the pace of its QT Programme. And third, the Debt Management Office should continue to reduce issuing long-term gilts, where UK yields are particularly high.

James Smith, Research Director at the Resolution Foundation, said:

“The UK currently has the highest borrowing costs among rich countries, which is adding to the Chancellor’s acute fiscal headache as she prepares for her Budget.

“These exceptionally high borrowing costs are not being driven by relatively high levels of debt, where the UK is in a better position than the US or France. Instead, it is being driven by sticky inflation and the UK’s reliance on foreign investors.

“Policy makers can and should do more to bring these borrowing costs down. The Chancellor should use her Budget to strengthen Britain’s fiscal position and avoid stoking inflation. The Bank can also help by slowing its sales of gilts in line with achieving the inflation target.”