To what extent did the recent increase in long-term UK interest rates reflect UK-specific factors?

Published on 01 December 2022

Ten-year UK government bond yields increased markedly between August and October. A model-based decomposition suggests that while part of the repricing reflected global developments, UK-specific factors played an important role.

Ten-year UK government bond yields increased by just under 300 basis points between January and October 2022 (Chart A). The majority of this move – around two thirds – occurred since August.

UK-specific shocks have played an important role in driving the pickup in UK ten-year nominal bond yields since August.

Sources: Bloomberg Finance L.P., Tradeweb and Bank calculations.
(a) Methodology based on Rigobon (2003). The orange ‘Global’ bars combine identified shocks from the euro area, Japan and US. See Raczko et al (2017) for more details. Data are weekly and the latest data point is for the week to 20 October 2022.

Other advanced-economy yields, such as those in the US and euro area, also increased over this period. Movements in these yields are typically highly correlated across countries, making it challenging to identify the impact of specific regional shocks.

One approach to address this problem, based on Rigobon (2003), uses changes in the volatility of asset prices (so-called ‘heteroskedasticity’) to identify country-specific shocks. Regression analysis can be used to identify when a specific region is experiencing particularly high or low price volatility in response to a shock, and to estimate the degree of comovement in asset prices across regions.

By using this model to decompose recent movements in 10-year UK gilt yields, Bank staff estimate that while part of the repricing can be attributed to spillovers from shocks in other regions (labelled ‘Global’ in Chart A), UK-specific factors have played an increasingly important role since August.

According to market contacts, these UK factors reflected news about both risks and the central case, including a higher central expectation for Bank Rate, heightened political and economic uncertainty associated with the Government’s fiscal announcements, and market illiquidity.

In the period leading up to the Monetary Policy Committee’s November meeting, gilt yields had fallen somewhat from their peak. According to the model, this had been driven by a fall in the UK-specific component (Chart A).

This post was prepared with the help of Aakash Mankodi and Amarjot Sidhu.

This analysis was published in the November 2022 Monetary Policy Report.

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