The U.K. wants to issue more shorter-term debt in order to keep a lid on its runaway borrowing costs — but Goldman Sachs analysts say a shift to more T-bill issuance offers only “limited” fiscal improvement.
The U.K.’s use of T-bills — shorter-dated, zero-coupon bonds with maturities typically under one year — has historically been at a much lower volume than that of its G10 peers, with successive governments typically relying more on longer-dated Gilts for funding needs.
But the U.K.’s Debt Management Office recently unveiled several measures that hint at a ramp-up in T-bill issuance, and a shift from using shorter-dated debt primarily for cash management needs in favor of longer-term debt management.
These include plans for regular 12-month T-bill issuance, improving repo facilities for T-bills, and moves to strengthen secondary market liquidity.
U.K. 10-Year Gilts.
U.K. borrowing costs have come into sharp focus this week, with yields on benchmark 10-year Gilts soaring more than 10 basis points on Tuesday to reach 5.105%. Longer-dated debt yields, meanwhile, hit their highest level since 1998, with yields on 20-year and 30-year gilts jumping 10 basis points higher.
In a recent note, Goldman Sachs analysts explored how an increase in T-bills, which are held mainly by banks, could affect the U.K.’s borrowing mix.
“T-bills help manage the variations in government cash needs and cash balances, for example from seasonal fluctuations in tax receipts or unexpected issuance needs in the face of economic shocks,” Goldman analysts led by George Cole, senior European market strategist, said in a note.
However, while a higher share of shorter-dated debt would reduce the weighted-average maturity of debt on an upward sloping yield curve — saving the government money on interest costs — “such a strategy also increases funding volatility”, impacting budgetary planning, analysts explained.
“This cost-benefit trade-off is key for the use of T-bills in the funding mix.”
Analysts said that by raising its share of T-bill issuance to around 10% — the average G10 level — which would amount to about £296 billion, up from the current amount of £94 billion, the U.K. could reduce its annual funding costs by up to 10 basis points, or £3 billion.
U.K. 20-Year Gilts.
But it would be unlikely to prove a transformational fix for the U.K. gilt market or public finances, they added.
“The average improvement in interest costs needs to be weighed against the risks of funding volatility and increased uncertainty in future fiscal projections,” Cole wrote.
Goldman noted how banks and financial institutions remain the largest holders of T-bills, accounting for about £27 billion of the current £94 billion outstanding. While there is scope for them to increase their ownership, data suggests they tend to prefer medium-term Gilts.
Domestic household demand could also stay limited, as T-bills compete with Gilts, savings accounts, and tax-free ISAs, which often offer retail investors better tax treatment and liquidity. Foreign investors, meanwhile, are “unlikely to be a source of significant demand growth.”
“Could reliance on short-dated debt increase credibility to maintain low inflation and thus low interest rates?,” Cole said. “It is not obvious that there should be a lasting compression of Gilt risk premium from higher T-bill issuance.”
He noted how similar arguments were made for inflation-linked debt — which also proved a key source of interest cost volatility during the period of elevated inflation — and ultimately offer “prima facie evidence that these commitment devices do not eliminate the risks around higher and more volatile rates and inflation.”
