Today’s subject is a welcome one in that it is something that in terms of the mainstream media has been hidden in the shadows. In fact I am being polite as they have looked the other way from what is rather a scandal. In a nutshell the Bank of England decided to buy UK government and corporate bonds at the top of the market and by that I mean the lowest bond yields the UK has ever seen. For example I recall that a couple of bonds in the 3/4 year maturity area traded at negative yields as the Bank of England rushed into the market like headless chickens. The official message was that they were frightfully clever financial geniuses and we should sing along with Bobby McFerrin.
Don’t worry, be happy
In every life we have some trouble
But when you worry, you make it double
Don’t worry, be happy
Don’t worry, be happy now
The issue is that they were taking an enormous interest-rate gamble. Because they had fixed-rate bonds and remember they were getting very little for them and in some cases nothing and on the other side they were paying Bank Rate which is variable. Drunk on their own power they felt they could hold Bank Rate at low levels for ever or at least long enough to one day dispose of these bonds. I am being polite here as one could easily argue they did not think ahead at all.
Thus interest-rate rises were always going to depth charge their position and their defence was to assume that would not happen. Let me really take you back in time to August 2013 and the words of the then Governor Mark Carney when he spoke in Nottingham.
The size of the balance sheet, the guidance we’ve given around that. We’re not going to reduce the size of the balance sheet. We might increase it but we’re not going to reduce it.
The arrogance of that was off the scale and we are all paying the price for it. I was pointing it out at the time as I wrote an opinion piece in City AM in early September 2013 saying we should start what is now called QT. The difference between then and now is that it would have been much cheaper back then and I mean MUCH cheaper.
But that arrogance meant an orgy of QE in the Covid era and remember under the hapless Minouche Shafik the plan was for interest-rates at 0.5% and 1% rather than the 5.25% we eventually saw. Yes that is the same woman ( albeit she is now a Dame) recently appointed to advise the Prime Minister.
The initial cost of all of this was the cost of living crisis where central banks suddenly realised that interest-rates were going to have to rise and that it would destroy their bond portfolios. Thus they responded with the usual human first response to a shock which is denial. In that “transitory” delay the inflation fires were not only lit but were raging.Because of the delay they raised interest-rates too high. By that I mean not the level but by the time they got to 5.25% it was too late and they were slowing the economy more than inflation. So as you can see it has been rather a disaster for which no-one has even been disciplined let alone sacked. That is because for all the claims of “independence” they were doing the state’s bidding. Or if you want the data I did some number-crunching on the 9th of April 2020.
If we stay with the QE purchases then we have bought out as far as 2071 ( QE for our grandchildren) and paid as much as £221.8 for something which will be redeemed at £100. That is a sign of how much Gilt yields have fallen because believe it or not the 2068 Gilt offers a coupon of 3.5% whereas we would now offer a coupon of 0.75%. Actually you might make a case for 0.5% but I think you get the idea.
The 2068 Gilt I mention is presently priced at 69 and this year has been between £66 and £82 as opposed to £221.8.
That is why it is now an issue they have lost a fortune on a marked to market basis. The next step is that holding such bonds is expensive with Bank Rate at 4%.
Dissent at the Bank of England
The problems above are why we saw this at the last Bank of England meeting.
The Committee voted by a majority of 7–2 to reduce the stock of UK government bond purchases held for monetary policy purposes, and financed by the issuance of central bank reserves, by £70 billion over the next 12 months, to a total of £488 billion.
The other 2 wanted this.
Catherine L Mann preferred a stock reduction of £62 billion. Huw Pill preferred a stock reduction of £100 billion.
I think Catherine Mann chose £62 billion because it would mean no active sales would be required. But now let me move to Huw Pill who spoke on the subject yesterday.
Chief Economist Pill
As he was about to prescribe a bitter pill the Chief Economist can prepared with plenty of excuses.
This decision was taken on the grounds that a number of factors – larger term premia on long-term government bonds, greater global economic policy uncertainty, and weaker demand for longer-term government debt stemming from structural changes in the UK bond market – may have increased the risk that QT would disrupt on market functioning.
He then hoped the audience would not realise that the Bank of England has indeed been consistent in its incompetence in this area.
Nonetheless, I dissented from the majority MPC view on this issue, favouring instead a continuation of the £100bn annual pace of QT that has been implement in recent years. This dissent reflects the high weight I place on maintaining continuity and consistency in the MPC’s approach to QT.
A bit like a football manager who has a leaky defence and keeps losing 5-0 asking for consistency.
I am sorry to have to tell you that he is lying in the quote below.
- Sales would be conducted so as not to disrupt the functioning of financial markets, and only in appropriate conditions; and
- To help achieve that, sales would be conducted in a gradual and predictable manner over a period of time.
Just look at UK bond yields where it has exacerbated the problems. Also this is either nonsense or another lie.
These principles have served the MPC well.
They have helped keep QT “in the background” (to quote an oft-used phrase).
Sorry but this is a lie to as this is exactly what it has just done by adjusting the level or rate of QT.
The approach has also been honest and transparent: the MPC has neither used QT as an active monetary policy instrument nor discussed doing so.
As John Lennon said.
I’ve had enough of reading things
By neurotic, psychotic, pig-headed politicians
All I want is the truth
Just gimme some truth.
When central bankers mislead like this they are careful to add something they can quote later and here it is.
To be clear, operating “in the background” does not mean (at least to me) that QT has no effect on yields (and wider financial conditions).
Indeed Huw has marked his own exam paper.
The evidence suggests there has been a modest impact.
Rather like the election in Blackadder.
Comment
This whole process has been extraordinarily expensive. So expensive you may note the denial in the second sentence below.
Over this period, central government made payments totalling £7.4 billion to the Bank of England (BoE) Asset Purchase Facility (APF) Fund, £16.1 billion less than in the same five-month period of 2024. These payments are recorded as both central government net investment expenditure and BoE receipts and so have no impact on overall public sector borrowing (PSNB ex).
We counted the interest profits and apparently now do not count the losses. Please do not try this at home as if caught your diet would be porridge based and probably quite a lot of it.
There are now no good answers merely how best we can deal with the problems created by the ship of fools responsible for all of this.
