Barclays has published a report making the case for lowering capital costs to hold UK government debt, in order to lower the costs fo the government to borrow in the bond markets.
Entited ‘Fiscal headroom: how leverage reform could lower the UK government’s cost fo borrowing’, it cites the UK Chancellor’s challeng to the Bank of England in November 2024 to “enable informed and responsible risk-taking” which led to the Financial Policy Committee (FPC) launching a review of UK bank capital requirements in December 2025.
“At present, IMF data shows that holdings of national sovereign debt by domestic banks are relatively low in the UK, at 7% of total sovereign debt, compared to 13% in the US, 16% in France and 18% in Germany,” the report notes. “Raising demand for gilts could reduce government debt servicing costs and so free up resources to spend on other government priorities within the same overall fiscal constraints.”
The mechanism suggested for this is for authorities to adjust the way the bank leverage ratio treats government bonds. The leverage ratio is a calculation for banks’ prudential capital requirements, intended to better support their capital reserves in the event of a shock.
“We find that if those gilts that are not used as collateral for any trades (‘unencumbered’ gilts) were excluded from the denominator in the calculation of the leverage ratio – a plausible change given their substitutability for central bank reserves by banks’ treasury operations – then an order of magnitude estimate for the increased demand for UK gilts over time is around £150 billion,” the bank writes.
It continues, “Based on a number of conservative assumptions using Office For Budget Responsibility (OBR) and Bank of England estimates, this in turn could reduce gilt yields by up to 20 basis points at steady state, so reducing the amount of government spending required for debt servicing by an estimated £2.5 billion annually, all else being equal.”
It also notes that there could be a positive effect for house buyers as there a close connection between gilt yields and mortgage rates, meaning that as yields tighten, rates will fall.
“It is important to emphasise that this is not a recommendation to exempt all gilts, which – as the Prudential Regulatory Authority (PRA) makes clear – could increase system risk. Instead, it is concerned with those gilts that are purely being used as a source of liquidity and hedging purposes and so can be thought of as substitutable to central bank reserves which are already exempt. By considering unencumbered gilts in the same way as central bank deposits when it comes to the leverage ratio it will permit a more optimal allocation of assets that also supports the yield curve at a time when government debt servicing requirements are constraining on the Chancellor. We therefore recommend that the UK government engage with the PRA to support removal of unencumbered gilts from the leverage ratio calculations.”
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