In the early Eighties, a Wall Street economist, Ed Yardeni, coined a famous phrase: “If the fiscal authorities won’t regulate themselves, the bond vigilantes will.” As Chancellor Rachel Reeves contemplates the final tweaks to her next Budget, she might want to reflect on what these famed bond market vigilantes do, and more importantly what they don’t do. They impose an external constraint on chancellors. If the Budget were to lead to higher interest rates, the value of the traders’ UK government bonds holding would fall. As individuals they protect their investments. But they hunt in groups: if they all sell their bonds, the price falls and the interest rate on government debt will rise.
The other pack that will go after Reeves are the journalists and political commentators who will criticise her for breaking her tax promises. My view is that making tax promises is a bigger crime than breaking them. The economy is changing all the time. What politicians should offer instead, and what voters should demand, is to have clarity about the underlying fiscal philosophy.
Labour’s manifesto was especially stupid, because it made a “non-negotiable commitment” to fiscal rules together with a promise not to increase income taxes on working people, not to increase National Insurance contributions, and to instead increase value-added tax, or corporate taxes.
You don’t need to be a maths genius to understand that the taxes received by the government, minus the spending, is the net deficit. And the deficit, in turn, is funded by borrowing. If you give iron-clad commitments on taxes and the deficit, you have entered a battle with the laws of arithmetic. It is very difficult for a government, especially this government, to reduce spending. Most spending is pre-committed, like spending on the NHS, or defence. And the parliamentary Labour party did not support Number 10’s attempts to marginally reduce spending on welfare.
Our fiscal equation is, in reality, a tad more complicated. It is not exactly taxes minus spending. Instead, it is expectation of future tax revenues minus expectations of future spending. Massaging these expectations is the only real wiggle room for chancellors. And this is also the only way to divert the bond market vigilantes and journalists that come after you.
This is where Reeves is failing. Her job is to make a credible case that her policies will raise productivity growth. That in turn would lead to more tax revenue, and less spending on welfare, as people get back to work. She is clearly not making that case.
The trouble in the UK, as in many other countries, is that chancellors cannot do that anymore. They have given that one last lever to an independent bureau, the Office for Budget Responsibility. The OBR is what is called an independent fiscal council. This type of institution is relatively new — it was popularised in the early 2000s. The OBR opened in 2010, and the experiment was emulated by other countries.
If you want to know why Reeves always looks so miserable in pictures, this is it. If you impose so many constraints on yourself, the job of chancellor is no fun. She is not legally obliged to accept the forecasts of the OBR. She can take somebody else’s or make up her own. I have been told the story of a former UK chancellor, who shall remain unnamed, who once received a forecast of negative growth. He took out his pen and drew a vertical line through the minus sign. “There, I fixed it,” as the modern internet-age meme goes. At the stroke of a pen, literally in this case, he eradicated the tyranny of the forecasters. But doing this requires confidence, together with the ability to string together a convincing story.
This is also why Liz Truss and her chancellor, Kwasi Kwarteng, failed. If they had linked their tax cuts to economic reforms to raise productivity growth, there would have been no problem. But by front-loading the tax cuts, they gave everyone the impression that they did not have a clear strategy.
Last week, the bond markets panicked when one of Reeves’ many budget leaks suggested that she will not, after all, raise income taxes. They know that she is not a chancellor with the confidence to cross out a minus sign. She won’t ever tell the economists that they are wrong, or tell her own party that she is running the show, and not them.
“Confidence, a quality Reeves lacks, is an important quality for a Chancellor.”
Confidence is an important quality for a chancellor. What matters a lot less is knowledge about economics. Denis Healey and Nigel Lawson had confidence, and so did Gordon Brown and George Osborne. Healey was a classicist by training. Brown was a historian, and so was Osborne. Lawson studied Politics, Philosophy and Economics at Oxford. This did not really qualify him as an economist, more like someone with a licence to talk about the economy. And talk he did, first as a financial journalist, later as a politician. I picked two Labour chancellors and two Conservatives. They were the most impressive occupants of Number 11 in the last 50 years, not because they were experts in fiscal policy, but because they understood the politics of fiscal policy. Reeves is educationally better qualified. She holds a master’s degree from the London School of Economics. She probably understands the technical side of fiscal policy better, and has more respect for the work of economists. This is exactly where the problem is. She is the chancellor who, as the saying goes, knows the price of everything but the value of nothing.
Another quality that Healey, Lawson, Brown and Osborne had in common was that all four of them were at one point thought to be future leaders. Of the four, only Brown became one. It is telling that in all the speculation about Keir Starmer’s future and his possible replacement, Reeves’ name never comes up. She does not have the political nous to lead.
To understand fiscal policy in its broader political, economic and financial context is intellectually hard. No university course will ever prepare you for this. In economic models, humans are called “agents” — dehumanised entities that rationally respond to incentives. In politics, you are dealing with actual humans. Even the bonds market consists of humans.
A good example of how a government turned the tables on the markets was this year’s US Budget. Donald Trump’s One Big Beautiful Bill is more irresponsible than anything I have ever seen coming out of Number 11 Downing Street. The bond markets panicked after he announced his tariffs in April. But his treasury secretary, Scott Bessent, knows how to talk to the markets. The overall level of tariffs is higher today than it was in April when the markets panicked. And yet the markets have calmed down again.
That’s the job of a finance minister, a treasury secretary or a chancellor. The Trump administration has quite a few people from the financial sector in senior positions, including Bessent himself. The workshare at Cabinet level is that Trump does the political selling, and Bessent keeps the investors happy. Neither of them plays by the rules. They ignored the economists over the tariffs. And then again over the stablecoins, a cryptocurrency-based financial instrument that is now actively sponsored by the US government. Trump and Bessent create their own facts, and make their own moves, like successful businesspeople do. They are not asking the Congressional Budget Office, the equivalent of the OBR in the US, for permission.
More often than not, such policies, irresponsible as they may appear at first sight, work surprisingly well. Remember all the forecasts by economists who predicted that the first Trump presidency would end in economic disaster? Or the recent estimates about what tariffs will do? Trump does not understand economics, but his policies always end up surprising economists. I don’t think this is a case of luck. A monkey with a dartboard can easily outperform a macroeconomist armed with a faulty model.
Contrast the cocksure behaviour of Trump and Bessent with Reeves’ pre-Budget antics. She has already lost the political battle. We know that the OBR has set the parameters of the Budget. She has no choice but to raise money through taxes. All the leaks were trial balloons because she wanted to know how they would go down. She is driven by fear, and that means she is not in charge. Reeves’ Budget is not only predictable. It is predicted. And the bond market vigilantes know it. They are often excellent judges of character.
The original vigilantes arose in the American goldrush towns of the 19th century in places like California, Montana and Texas. They were citizens taking the law into their own hands. But it was a dangerous life. Many of them ended up killed by other vigilantes.
Today’s bond market vigilantes also play a risky game. They hunt in packs, but they die on their own. Together, the Bank of England and the Treasury have many instruments at their disposal to inflict heavy losses on speculative bond investors. But in the UK, investors know that this is not going to happen. They see Reeves running away from them — and they smell fear.
