After weeks of turmoil, UK markets face another test on Monday

Another Judgment Day for the financial markets is approaching in the UK.

Monday morning will be the first opportunity for investors to give their opinion on the government’s rapidly changing plans for the country’s public finances. And crucially, it will be the first trading session since the central bank ended a program that has spent billions of pounds to prop up the bond market through the recent turmoil.

Over the weekend, Britain’s new top finance official, Jeremy Hunt, tried to reassure markets, the public and other Conservative Party members that he can restore the government’s fiscal credibility. Signaling renewed confidence in the new Chancellor of the Exchequer, Mr Hunt, Andrew Bailey, the Bank of England Governor, said on Saturday they had had talks and a “meeting of minds” on fiscal sustainability.

On Friday Prime Minister Liz Truss sought to end three weeks of financial turmoil sparked by a bold plan announced on September 23 to cut taxes by tens of billions of pounds and significantly increase borrowing. Condemnation of this fiscal policy agenda, coming at a time of high inflation and rising interest rates, came quickly: the pound fell to a record low against the dollar and bond yields rose sharply, turning the UK home mortgage market on its head and causing a crisis in the UK Pension funds caused which led to central bank intervention.

“We must act now to reassure markets of our fiscal discipline,” Ms Truss said on Friday after sacking Kwasi Kwarteng, the chancellor and close ally who introduced the plan. It has also reversed a second major tax policy. Ms Truss said she would drop plans to thwart a proposed increase in the corporate tax rate, having already scrapped a plan to scrap the income tax rate for the highest earners.

Still, sterling fell late Friday and government bond yields – a measure of the cost of government bonds – rose. The 30-year bond yield closed at 4.78 percent on Friday, a full percentage point higher than before the Sept. 23 announcement.

Will these trends continue on Monday? When markets open, it will be the first time in two and a half weeks that the central bank won’t buy government bonds to ease a liquidity crisis facing pension funds. The bank bought more than £19 billion in bonds.

How the market reacts will test both the government’s efforts to restore calm and the central bank’s efforts to restore order to the bond market. There could be volatility, but the question is whether it will be large enough to trigger a return to the dysfunction that previously threatened financial stability.

There were signs over the weekend that Mr Hunt, the fourth Chancellor in as many months, would be ready to ditch much of Ms Truss’ previous financial plan as he said he was “not taking anything off the table”.

A report in The Sunday Times said Mr. Hunt would delay a plan to cut the lowest income tax rate by a year.

“We’re going to have to make some very difficult decisions, both on spending and on taxes,” said Mr Hunt in a BBC interviewwhich was taped on Saturday and broadcast on Sunday morning.

“Spending won’t go up as much as people were hoping,” he added. “Taxes won’t go down as fast as people thought, and some taxes will go up.”

These plans to reduce Britain’s debt levels and have the policy fully evaluated by the Office for Budget Responsibility, an independent government regulator, appear to have been well received by the Bank of England. On Saturday, Mr. Bailey hinted that things are different at the Treasury Department now.

“This is a clear message for everyone, including a clear message from the markets,” he told a conference in Washington. “I can tell you that there is a very clear and immediate disagreement about the importance of stability and sustainability.”

Despite these reassuring words, there is still a lot of uncertainty for investors. It is unclear how much longer Ms Truss can hold her position as Prime Minister; Mr. Hunt’s tax, spending and debt reduction plans will not be announced until October 31; and Britain still faces a host of economic challenges, including high inflation and energy prices, with squeezed households and businesses warning of a slowdown in consumer spending. There is also the question of how much the functioning of the bond market has improved.

Monday will bring only some answers to these questions.