British gilt yields rise, sterling dips as Burnham becomes UK prime minister

By Sophie Kiderlin, Yoruk Bahceli and Alun John

LONDON, July 20 (Reuters) - Benchmark British borrowing costs rose and sterling dipped on Monday as investors fretted over whether Andy Burnham's early remarks on becoming prime minister suggested he would adopt a looser fiscal policy.

Burnham later on Monday named former defence secretary John Healey as finance minister, causing the pound to recover marginally along with bond futures.

Britain's seventh prime minister in a decade faces an array of challenges in his new role — from a sluggish economy to worries about fiscal discipline and the fallout from the Iran war.

Burnham said on Monday he would stick to the previous government's fiscal rules although he would use any flexibility within them.

He also said he was looking at increasing tax-free thresholds for paying income tax and promised to use some of his "political capital" to tackle Britain's social care crisis.

Prices of British government bonds, or gilts, extended their earlier fall after his remarks, sending Britain's benchmark 10-year gilt yield up 8 basis points on the day to 5.04%.

The equivalent German and U.S. yields were up 2 and 4 bps respectively.

"We had a bit of a reaction from the market, and I think it was this headline about him (Burnham) being willing to use any flexibility within the fiscal rules," Evelyne Gomez-Liechti, multi-asset strategist at Mizuho, said.

"The market is sensitive to any specific thing (announcement) that has the fiscal rules in it."

Britain's 30-year yield, sensitive to longer-term borrowing pressures, rose 9 bps to 5.75%, its highest in two months.

Sterling dipped after Burnham's remarks and then marginally rebounded after the announcement of Healey as chancellor a few hours later.

"Healey resigned from (Keir Starmer's) government over the lack of spending on defence that could suggest we may see more spending there, which means more spending overall, but we'll have to wait and see," said Nick Rees, head of macro research at Monex Europe. "I don't think anyone in the market has been looking closely at Healey."

Sterling was last down 0.17% on the dollar at $1.3429 and also gave back earlier gains on the euro to trade flat on the day at 85.04 pence to the common currency.

Investors in recent weeks had feared that Burnham might appoint a more left-leaning chancellor, though the new prime minister's commitment to his predecessor's rules on taxation and public spending was considered more important.

INVESTORS ARE NERVOUS

British yields are already the highest in the G7 group of advanced economies, and 10-year borrowing costs hit an 18-year high in May as the Iran war drove up energy costs.

That underscored fears about inflation around the world, and particularly in Britain where it has long been above target.

High public debt, and the scars of the Liz Truss mini-budget crisis in 2022, have also been weighing on bond prices and keeping yields elevated.

And investors remain nervous about Burnham's plans.

"I can't believe we've gone from this relatively long period of stable leadership to this rapid change of prime minister that gives no one that certainty for the longer term," said Oliver Blackbourn, multi-asset manager at Janus Henderson, speaking earlier on Monday.

Blackbourn said that he had favoured gilts before Burnham won a seat in parliament last month, propelling the former Greater Manchester mayor towards becoming prime minister, but that he had cut his position since, in case the new top team's policies increased government borrowing. 

(Reporting by Sophie Kiderlin, Yoruk Bahceli and Naomi Rovnick and Alun John; Editing Susan Fenton, Hugh Lawson and Deepa Babington)