UK government bond dealers have pointed out that the UK is about to step up its use of short-term debt. This shift could push down gilt yields and ease the country's increasingly strained public finances. At the same time, although the upcoming Autumn Budget has already set a "do no harm" tone, the potential market reaction it could trigger still warrants vigilance for the gilt market.
UK Plans to Increase Short-Term Treasury Bill Issuance, Potentially Lowering Gilt Yields
The UK government is expected to update investors on plans to expand the treasury bill market on October 28. In May of this year, the UK government announced it would introduce 12-month treasury bills before the end of the current fiscal year, supplementing the existing 1-month, 3-month, and 6-month maturities. The UK government has traditionally relied mainly on long-term bonds for financing. In terms of debt maturity, the UK is an exception. In 2025, about 20% of UK borrowing was issued in the form of treasury bills, while the average for Organisation for Economic Co-operation and Development (OECD) member countries is about 47%. Expanding the size of the treasury bill market would allow the UK to take advantage of growing market demand for short-term maturing debt while potentially reducing interest expenses. For the UK government, any savings would be more than welcome. Due to rising borrowing costs, the country's already limited fiscal buffer has been severely eroded.
UK Short-Term Debt Demand Has Remained Strong, Treasury Bill Auction Bid-to-Cover Ratios Typically Exceed 2x
In the UK, market signals show that investor demand for treasury bills is very strong. Bank of America said that demand at the UK's weekly treasury bill auctions has been robust, and the scale of treasury bills held by banks has also increased over the past few years. The assets under management of UK money market funds have grown rapidly. These funds typically invest in short-term debt instruments issued by governments, banks, and corporations. According to the median of 10 forecasts from a survey of primary dealers conducted by media, net treasury bill issuance in the current fiscal year will reach 11 billion pounds (about 14.7 billion US dollars). This scale is roughly flat compared with the previous fiscal year but far above the 5 billion pounds forecast by the UK Debt Management Office in April. Dealers also expect issuance to increase substantially next year, with RBC Capital Markets projecting issuance will reach 25 billion pounds. Bank of America rate strategist Mark Capleton said: "Shortening the weighted average maturity of newly issued debt could potentially lower gilt yields, or reduce upward pressure on them. By issuing shorter-dated debt, the average interest cost can be reduced. In addition, by reducing issuance of instruments such as 10-year gilts, the financing rates on these bonds can also be lowered." He added: "Shortening debt maturity is a trend we are watching globally, but no country needs to do this more than the UK." The shift toward short-term debt has already shown some results. Since the Bank of England said on September 17 that it would stop selling long-term UK government bonds, the 30-year gilt yield has fallen by 11 basis points. By comparison, the French 30-year government bond yield rose by 39 basis points, while the US 30-year Treasury yield fell by 5 basis points. However, shortening borrowing maturities also comes with risks 鈥?debt needs to be refinanced more frequently, which exposes the government to greater risk when interest rates rise. This year, amid a global bond selloff, UK borrowing costs have climbed sharply, with the benchmark 10-year gilt yield rising to 5.36%, the highest level since 2007.
Beware of Shocks from the Autumn Budget
It is worth noting that the UK's Burnham government will also publish the Autumn Budget on October 28. After the previous chancellor cumulatively raised taxes by more than 60 billion pounds (about 80 billion US dollars) across two budgets, current Chancellor John Healey has no intention of introducing another large-scale, attention-grabbing fiscal package. Several phrases repeatedly used recently by Healey and his Treasury officials 鈥?"do no harm," "stay the current course," and "focus on priorities" 鈥?appear to have already set the tone for the upcoming Autumn Budget. Healey will seek to sustain the favorable public opinion atmosphere and rebound in support rates accumulated over the three months since the Burnham government took office, while postponing the UK political arena's most difficult and least popular issues to the future. It is reported that Healey will fund a short-term spending plan aimed at appealing to public opinion by raising bank taxes, in order to help voters and businesses under pressure from energy cost increases caused by the US-Iran war. The Autumn Budget will also include a series of measures aimed at reducing regulatory burdens on businesses, such as simplifying corporate reporting requirements; the government will also extend import tariff suspensions for products in multiple industries, involving sectors such as chemicals, plastics, and hydrogen energy. At the same time, key issues such as welfare system reform and long-term investment in defense will be postponed. James Nation, who served as a special adviser to Sunak during his time as UK Chancellor and Prime Minister and is now managing director of Forefront Advisers, said: "They have already done the math and believe that, considering everything else happening globally, this budget only needs to 'do no harm.' They do not want to take any measures that could disrupt the current situation." Healey is submitting this budget against a severe market backdrop. Affected by the Middle East war pushing up inflation expectations, global borrowing costs have risen sharply, and the UK has also been hit. When former Chancellor Reeves last published a fiscal statement this spring, the UK Office for Budget Responsibility based its economic forecasts on market conditions at the time, when the 10-year gilt yield was 4.5%. But in recent weeks, the 10-year gilt yield has risen to as high as 5.5%, close to multi-decade highs, further worsening the economic outlook Healey faces. Therefore, one of the key decisions Healey must make is whether to rebuild the 23.6 billion pound fiscal buffer inherited from Reeves. As borrowing costs soared and debt interest payments increased, this buffer has been eroded. According to people familiar with the matter, Healey is willing to accept a smaller fiscal buffer. The median forecast of major government bond dealers shows that the UK government's fiscal buffer will shrink by about one-third to 15.2 billion pounds. Deciding to use part of the fiscal buffer reduces the pressure Healey faces in choosing between raising taxes and increasing spending. In fact, the UK fiscal buffer had already shrunk substantially before the budget was published. In March of this year, the UK government's fiscal headroom was still 23.6 billion pounds, but due to the global bond selloff and rising borrowing costs, EY estimates it has fallen to about 11.3 billion pounds, UBS estimates about 10 billion pounds, and some fund managers even believe it may be only around 14 billion pounds. The National Institute of Economic and Social Research (NIESR) pointed out that the 10-year gilt yield has risen by about 110 basis points to 5.4% since the Middle East conflict, and about two-thirds of that increase may be persistent, meaning that a structural rise in borrowing costs is systematically compressing fiscal room for maneuver. The budget itself faces a gap of about 7 billion pounds that needs to be filled: including a funding shortfall of about 4.7 billion pounds in the defense plan and about 2 billion pounds in cost-of-living subsidy spending. Since income tax, VAT, and corporate tax have already been ruled out as tax-raising options by political commitments, the feasible space is quite limited. According to reports, Healey has abandoned raising capital gains tax and instead turned to bank taxes as the main revenue-raising tool. UBS expects the government to adopt smaller measures such as a wealth tax, inheritance tax, and higher bank taxes, while postponing difficult decisions on welfare and departmental spending until 2027. This means the budget is likely only to temporarily stabilize fiscal space rather than truly repair it. EY warned that if the Strait of Hormuz is closed for a long time and inflation rises to 6%, fiscal space could evaporate by a further 18 billion pounds, turning into a deficit of about 7 billion pounds and directly violating fiscal rules. Helen Miller, director of the Institute for Fiscal Studies, said in a statement: "For a plan to cut borrowing and comply with fiscal rules to be credible, the Chancellor must clearly set out overall spending totals, and those totals must be ones he is genuinely willing to adhere to. If he merely arranges on paper some hidden cuts he has no intention of implementing, then this budget will become a work of fiction." If Healey publishes an Autumn Budget that seeks stability, gilt yields are expected to edge lower. Barclays strategists believe that for a new chancellor in an uncertain environment, a "boring" budget is actually the best outcome. UBS estimates that a budget complying with fiscal rules could remove 15 to 20 basis points of extra risk premium already priced into 10-year gilts, with the "value" of compliance at about 20 basis points. Some large institutions have already bought gilts ahead of the budget, betting that Healey will stick to fiscal discipline. But if the budget disappoints the market, gilt yields may face upward risk. UBS pointed out that if the budget violates fiscal rules, the 10-year gilt yield could rise by 25 to 50 basis points. The more fundamental problem is that, as NIESR emphasized, interest rates are now higher than the economic growth rate, and the debt arithmetic has shifted from a "tailwind" to a "headwind" 鈥?even merely keeping the debt-to-GDP ratio stable requires a larger primary surplus. If the budget responds to shocks by increasing borrowing, and the shocks themselves are persistent (energy prices, competition for capital from AI investment, global government borrowing demand), then the Bank of England will be forced to take on more tightening tasks, further pushing up short-end rates and transmitting them to the long end. The market will focus on how much "headroom" Healey retains in the budget. If the fiscal buffer can be maintained at around 14 billion to 15 billion pounds, it may be enough to reassure the market; if it is significantly below that level, or if major spending decisions are systematically postponed to the 2027 spending review, investors may interpret it as "delay rather than resolution" and demand a higher term premium. In short, this budget can hardly reverse the broad trend of narrowing fiscal space, but it can determine whether the market responds to that narrowing with "mild acceptance" or "punitive selling."
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