Less than a week ahead of the Budget, chancellor George Osborne has been given a very clear warning by credit rating agency Fitch. "Keep up the cuts or else".
Fitch has put Britain on negative outlook'. The group warned that the UK could lose its AAA-credit rating if the government fails to stick to its plan and debt ends up "peaking later and higher than currently forecast."
Trouble is, if growth is weaker than hoped, or there's a eurozone crisis, then we could lose the AAA too.
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That leaves Osborne in a bit of a bind. How can he pull any vote-winning rabbits out of the hat if he hasn't got any spare cash?
It's small wonder he's pondering desperate measures such as issuing 100-year gilts
A 100-year fixed-rate loan is a great deal for the borrower
What rate would you charge to lend your money to the British government for the next 100 years?
George Osborne plans to find out. He's looking at issuing a century' gilt, or maybe even a perpetual' (which has no maturity date at all). The benefits for the government are clear.
Britain would get to take advantage of current low lending rates. It would get to extend its average debt maturity even further. This stands at an already healthy 14 years, which is twice the figure of Italy and France. What this means is that we are less vulnerable to short-term spasms of panic in the debt markets, because we don't need to roll over our debt as regularly.
It would also be a nice publicity stunt. "Look," the chancellor could say. "Britain is so safe, so credit-worthy, so well-managed, that investors are throwing money at us."
And at the back of his mind, he's probably thinking, "Maybe the ratings agencies would cut us some slack if we had a longer debt maturity. That means I could spend a bit more money on winning the next election."
So you can see why Osborne is tempted to explore this. What's less clear is the upside for anyone who is confused enough to give the government this money.
Why would anyone lend to the government for 100 years?
The initial reaction certainly hasn't been good. Investors might be dim enough to lend to the government over ten years for a sub-inflation return, but they're not keen to do it for the next century.
Even those seen as the most natural customers for the product pension funds, who have to match liabilities to life expectancies aren't keen.
The National Association of Pension Funds (NAPF) said "few of its members would find such gilts attractive," says The Times. Joanne Segars of the NAPF told the paper: "Pension funds are looking for 30, 40 and 50-year index-linked debt, and would much rather the government issue more of those."
Well, of course they would. An asset that guarantees to beat inflation with very little risk over the course of 50 years is exactly what a pension fund needs.
But the point of issuing a 100-year bond at minuscule interest rates is to effectively write off the debt via inflation. Index-linking it would render the whole thing pointless.
The War Loan, issued in 1915 to pay for the First World War, was similar to what Osborne seems to be planning now. And it turned out to be a disastrous investment. In 1932, it was restructured'. Indeed, some argue that Britain effectively defaulted. In practical terms, that was the impact on anyone holding the debt. £100 invested in the loan back then is worth less than £2 today, notes Ian King in The Times.
Keep avoiding gilts
What does all this mean for you? The fact that Osborne is seriously considering this, does make you wonder how much longer the gilt bubble has to last. If it wasn't for the massively sceptical reaction from potential buyers, I'd say this was almost like ringing a bell for the top of the gilts market.
And it'll be interesting to see the reception they receive if they actually get to market. Pension funds might be slagging them off now, but that's the equivalent of kicking the tyres and tutting when you walk around a car showroom. They might lap up the 100-year debt when it's issued.
Make no mistake, you'd have to be mad to buy it. Britain's status as a safe haven' relies on two key things.
First, the crisis in Europe. As long as that continues, sterling and the UK are two nice, convenient destinations for wealthy Europeans seeking refuge for their cash. But that can only continue for so long.
Second, the Bank of England. Osborne doesn't like to mention this, but gilt yields are low because our central bank keeps buying the things with freshly minted money. There's a guaranteed, price-insensitive buyer in the market. Even the most useless contestant on that Alan Sugar programme, The Apprentice, could make a successful sale under those conditions.
If quantitative easing ends, gilt yields will have to rise. Indeed, that may be one good reason why the government is trying to make hay right now.
As regular readers will know, we've been negative on developed government debt in general for some time. And this does nothing to change our minds. My colleague David Stevenson has been warning about the state of the UK government's finances in his latest video for Fleet Street Letter.
Incidentally, if you're worried about inflation, I'd be comfortable holding on to index-linked gilts. Actively defaulting on these would be a huge step, and so I don't see it happening, although they might fiddle with the official inflation fugures. With headline inflation declining, you may get a better chance to buy later this year, but then again, the stubbornly high oil price may mean Mervyn King is disappointed sooner rather than later. That said, I'd keep hold of gold too as an all-round insurance, and one that isn't priced in sterling.
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