Mr Bean and two Barons are pressing for monetary financing in the UK

Today brings into focus several themes of my work. The first is the expansion of the role of central banks into ever more areas a subject I looked at only on Friday. I would say economic areas but in an outbreak of both hubris and ego central bankers such as Mark Carney and Christine Lagarde found it fashionable to intervene on the issue of climate change as well. Or if you prefer they again behaved like politicians rather than the technocrats they are supposed to be. Also we have learnt that big policy changes from them are regularly preceded by an official denial of any such intention. This is sometimes just pure PR but at other times deliberately misleads the unwary. The record on this front so far has been Governor Kuroda of the Bank of Japan who imposed negative interest-rates only 8 days after denying any such intention.

Thus my antennae were fully deployed when the new Governor of the Bank of England gave an interview to its house journal over the weekend.

Andrew Bailey

The Financial Times article went straight to an official denial.

Bank of England governor Andrew Bailey has rejected suggestions the central bank should use monetary financing to protect and boost the economy amid the corona virus crisis, saying it would “damage credibility on controlling inflation”.

There is a clear initial issue with the assumption that the Bank of England has credibility on the issue of inflation after letting it go to over 5% in late 2011 and encouraging it to go above target with the Bank Rate cut and Sledgehammer QE of August 2016. So let us remind ourselves that this is the FT and move on.

Let us move on to the exact words used.

“Using monetary financing would damage credibility on controlling inflation . . . It would also ultimately result in an unsustainable central bank balance sheet and is incompatible with the pursuit of an inflation target by an independent central bank,” said Mr Bailey.

As you can see we now also have a claim that the central bank is “independent” which has crumbled to dust in the credit crunch era. For example the permission and indeed underwriting of any QE bond purchases is required from the Chancellor of the Exchequer. Also the importance of of inflation target was further downgraded in 2013 when the then Chancellor George Osborne introduced supporting the economic activities of the government as one  and indeed in my opinion the objective of central bank policy. So this is really rather awkward as the Bank of England is neither independent nor pursuing its inflation target.

How has this come about?

We see a classic case of the UK establishment in action.

Although monetary financing has been associated with disastrous economic consequences in Zimbabwe, Venezuela and Weimar Germany in the 1920s, such is the depth of the Covid-19 crisis that it has been recommended by some of the UK’s most distinguished UK economic policymakers.

Okay who then?

Figures such as Adair Turner, chairman of the Financial Services Authority during the financial crisis, and Charlie Bean, currently on the policymaking committee of the Office for Budget Responsibility, have said that judicious BoE financing need not lead to the hyperinflation, immiseration and the destruction of society seen elsewhere.

If we stay with the issue I am not entirely clear that following any example set by Venezuela, Weimar or Zimbabwe in this area is one to follow! A while ago some of you posted some 1 trillion notes from Zimbabwe on here. Next comes the word “judicious” that I rather suspect will be finding its way into my financial lexicon for these times and out of the Oxford English Dictionary.

As to these being “distinguished UK economic policymakers” here is Sir Charles Bean from September 2010.

 “It’s very much swings and roundabouts. At the current juncture, savers might be suffering as a result of bank rate being at low levels, but there will be times in the future — as there have been times in the past — when they will be doing very well.

I am sure plenty of savers are shouting we are still waiting Charlie right now. Indeed Mr.Bean’s inability to look ahead accurately continued.

The Deputy Governor said the Bank’s 0.5  per cent base rate was part of an “aggressive policy” to deal with a “once-in-a-century” financial crisis.

Just as a reminder Bank Rate is now 0.1% so savers are continuing to have to do this.

Savers shouldn’t necessarily expect to be able to live just off their income in times when interest rates are low. It may make sense for them to eat into their capital a bit.”

By contrast Sir Charles Bean has done really rather well. According to the 2012 annual accounts of the Bank of England he had accumulating a pension worth over £3,5 million which was growing at an annual rate of over £400,000 a year. Subsequently he was in charge of the review of UK economic statistics which seems to have gone to ground. Also he was appointed to the Office for Budget Responsibility due to his expertise in forecasting the future.

As to Baron Turner of Ecchinswell he was head of the FSA in the UK when we saw the banking collapse and taxpayer bailouts. I still recall a comment on here that described him as having had a “talentless ascent”

Bond Markets

Let me shift now to a technical issue where the characters above seem to be swimming at the deep end with skills only suitable for the shallow end. The emphasis is mine.

Unlike its previous quantitative easing programmes, notably in the financial crisis, the BoE said the latest QE was necessary to improve the functioning of the government bond market rather than to lower interest rates.

I am calling that out because we have two clear examples of large purchases of government bonds and in both cases the bond market has frozen up. There were days even before this pandemic crisis that Japanese Government Bonds barely traded at all and Greece after all the official purchases saw liquidity end.

 

Comment

Let me first open with what the Bank of England is doing which is buying some £13.5 billion of UK Gilts a week and last week its purchases went was far as 2071. This means that even the fifty-year UK Gilt yield is a mere 0.6% and the Bank of England is implicitly if not explicitly financing UK government spending. An example of this was that we issued some £3 billion of a 2028 Gilt last week and on the same day the Bank of England bought £1.4 billion of the 2029 Gilt which looked to all the world like a spread trade.

Next is the issue of monetary financing and inflation. We have been presented with a list of what are considered to be the great and the good but if we add in Baron King of Lothbury their track record in this area is poor. Indeed Baron King voted for more QE in the summer of 2012 just as the economy was picking up. At this point we need to remember that these people from the Bank of England have been in authority when there have been all sorts of attacks on the Retail Prices Index measure of inflation but somehow seem to have overlooked that their own pensions benefit from it.

In my opinion we will see a complex picture for inflation looking ahead. Some areas will and indeed are seeing disinflation highlighted by the oil price. But others will see price rises due to shortages and also via not being able to buy what they want and having to buy something which is either more expensive or not as good.

Let me finish off on the subject of monetary financing. The simple truth is that we have an implicit form of it right now. Why is the currency not collapsing? Because nearly everyone else is at it too! Although of course in the world of the FT the Pound is collapsing.

and a sharp slide in sterling’s value

Actually it did fall allowing the FT to get short of it one more time at a market bottom. Against the Euro it was pushed towards 0.95 as we discussed but now has rallied a bit to below 0.88.

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14 thoughts on “Mr Bean and two Barons are pressing for monetary financing in the UK

  1. How does a public servant amass a £3.5 million pension, Premier League footballers ought to be petitioning to get failed civil servants to take a pension cut. (of about 85%)

  2. the notion that the UK government, which is the sole entity permitted to create the UK’s currency, the British £, has to borrow the currency that it alone creates in order to spend the currency that it alone creates, is somewhat absurd.

    The UK government never needs to sell a bond. These days it does so mainly as a service to those savers who prefer to hold a liability of the public sector directly, and receive a fixed rate of interest for a set period of time, rather than a variable rate of interest that they might receive holding a bank deposit, (which is a liability of a commercial bank, with the commercial bank holding variable rate reserve balances as its offsetting asset.)

    When the UK government deficit spends, it supplies financial assets to the non-govt sector (people like you and me). The net savings of the non-government sector are exactly equal to the accumulated deficits of the government sector, which is commonly referred to as ‘the national debt’.

    The financial assets supplied by the government sector to the non-government sector can only be government issued money (currency, which includes reserve balances held by commercial banks as well as notes and coins) and government issued bonds. Only the government sector can issue both of these. They can come from nowhere else. Both of these are in demand. Demand for both changes over time. The supply of both can be altered at any time to meet this demand. This is what we saw in 2009 and onwards. This is what we see now. It’s no big deal.

    ‘Monetising debt’ is not the great evil it is made out to be. It’s what the banking system exists to do. When I created my own large debt when I purchased my house, my bank accepted my debt and monetised it by creating a deposit of money in the house seller’s bank account. Why? Because the seller wanted to hold a bank deposit – a liability of a bank, which can be used as a means of exchange – rather than my debt.

    There’s a good reason why the government deficit spending and supplying currency rather than bonds is not causing inflation. It’s because it doesn’t matter whether the government supplies ether currency or bonds when it deficit spends. What matters is the availability of the real resources that the government is purchasing when it deficit spends. If those real resources are available for sale in exchange for £, and the non-government sector has no inclination to purchase them, the government can, and should, purchase them and that purchase will not be inflationary. That is true whether the government offers holders of £ the opportunity to purchase bonds or not. It makes no difference.

    • RE :”When I created my own large debt when I purchased my house, my bank accepted my debt ”

      no you did not create any debt yourself – that’s illegal .

      you got the money from a Bank that then created the debt – this is different , Bob’s bank does not exist.

      Forbin

      • I think it’s worth me spending £1 to make my point, so here goes:

        “Forbin, IOU £1”

        There, you go, I just created my own debt. Is anyone going to arrest me for doing something illegal? Of course not! Anyone can create their own debt. You can collect that debt anytime you like.

        Now, because I’m not a bank and you’re not a bank, our debts, our IOUs aren’t widely accepted and are therefore not that good as a means of exchange. An IOU of a bank, however, is widely accepted. An IOU which the bank allows to be assigned with zero notice is very useful as a means of exchange. It’s called a bank deposit.

        If I write that IOU to a bank, then provided it accepts it, it will create a £1 deposit in my current account, or the current account of anyone I nominate. That’s how bank money is created. Note: it’s not currency, it’s bank money or credit money. It’s an IOU from a bank that we use as a means of exchange – thus it is de facto money.

        That is how the banking system monetises debts. It accepts my debt, which is close to useless as a means of exchange, and it creates its own debt (or liability) which is a very good means of exchange. It has created bank money or credit money. It has monetised my debt.

  3. It is amusing (if not frightening) to see all these buccaneering freemarketeers running for govt support as soon as their “clever” investments go wrong. They then twist economic theory to justify their own needs – hence the rise of Modern Monetarism, which I wrongly called New Monetarism on Friday, to provide vast amounts of cash to “support” the economy (ie: their assets). They think that low RPI (fiddled) inflation means they can print to raise demand and maintain asset prices with impunity. Suddenly, they are advocating Zimbabwenomics and state direction. The funny thing is that the seepage of money caused by rates below the liquidity trap levels has gone into asset prices, which they liked. Ultra low safe rates reduced the denominator in share valuation equations to almost nil and so, prices rocketed. They forgot the numerator – PV of future profits. Profit projections are of course also affected by confidence – hence recent falls, although it is more likely to be individual bankruptcies than general value falls in the future. (To borrow from Friday, Steel Bo**ocks as Nick Leeson would say).

    There are some really funny sites on the Net and for a good laugh, there is Jeff Taylor on YouTube, who is Daily Express populism on steroids. He is an ardent Brexiteer and so, rejects the jurisdiction of the ECJ and ECHR courts. On Friday, he was demanding that we go to the international courts to seek compensation from China. Not really though that through, have you Jeff? Today, he is talking property prices. He reckons that there won’t be much of a price drop as he uses the supply/demand fallacy and thinks people will stay put (yes, that’s the 3 month mortgage holiday, which will be extended).. However, he does see a supply issue if there are problems with tenants paying the rent – once landlords “get rid of problem tenants” as he so caringly puts it, they won’t get rent and demand will fall as potential tenants economise in various ways. So, we are talking about BtLs having mortgage problems with their high gearing. He advocates a mass state buy-up of BtLs as they become available, so the state can take risks on tenants. Then there is the little matter of how much the state would pay and it would finance that, especially given the growing demands for more NHS and Defence spending. I think Corbyn was advocating taking over BtLs, not that he would have paid the “market value”.

    Go to Conservative Home (started by friend of Victor Orban, Tim Montgomery) for real lunacy (I was banned for pointing out the logic issues). There you will find the buccaneers going hyper for state intervention. One MP, Neil O’Brien obviously doesn’t bother to read his own previous items as he writes about the six ways society will change. Inevitably the agendas come through as he condemns plans to bring in migrant workers for agriculture – there will be enough unemployed, he says. Of course, there are only 90,000 jobs and unemployment has always been higher than that. No doubt, when his uni-educated child is directed on to the farm, he will change his tune. His final point is that Germany is producing lots of testing kits, so we need to go back to making things. I advocated skills and production on German lines in 1979, but they didn’t listen. Of course, we come back to that fundamental issue in a free society – choices and incentives. Several times, I have raised the return issues on skills training by an individual against quick buck profits from sitting in a pile of bricks. I point out that to get the equivalent returns for an extension or BTL from an MBA would take many years and a lot more work. The response is that I made the wrong investment choice, so tough. Now, I am being told there will be more taxes on my income to support house prices! Apparently, these people shouldn’t make the effort or lose out. Those in charge (as I said on Friday) are my contemporaries, steeped in false Keynesianism and lacking any understanding of monetarism or Erhard-style free markets.

    So, today’s music choice is rather good in summing up the current situation, being on furlough and the failure of our leadership to grasp economics.It is Bastille’s Pompeii:

    I was left to my own devices
    Many days fell away with nothing to show
    And the walls kept tumbling down
    In the city that we love
    Grey clouds roll over the hills
    Bringing darkness from above
    But if you close your eyes
    Does it almost feel like
    Nothing changed at all?
    And if you close your eyes
    Does it almost feel like
    You’ve been here before?
    How am I gonna be an optimist about this?
    How am I gonna be an optimist about this?

    I only came across this recently when I was looking at a video for an Overland trip with Dragoman to South America. They took over Encounter Overland, with whom I went across the middle part of South America in 1988. I had paid the deposit, but paid the balance and got my cash together just a few days after seeing the M3 growth figure at 25% in March 1988. If you ever get the chance, just go. Here is the video and my Latin master (think Life of Brian) would be delighted to know I remembered that Eheu means something like ‘alas’ or ‘oh woe’, which is very appropriate as our village idiot Dominic Raab is apparently currently in charge🤦‍♂️

    Anyway, as I close my eyes and feel that I have been that way before

    • Good post, do love the way the upper echelon free marketeers are straight onto the ear hole of the govt. P and O owners ie Dubai Royal Family … and Dick Branson the most recent and notable.

      Poor ol contractors get next to nowt .. as they rightly should.

  4. Also worth noting that money printing wont lead to hyperinflation if money demand is low- as seen in the wake of the financial crisis when velocity slowed. Also, Germany, Venezuela, Zimbabwe etc kept on printing money-we are talking about a one off bout which will would then be reversed when demand is back to normal. (I know broad money would be permanently higher but as I understand the transmission mechanism works mainly through narrow money -otherwise why buy/sell bonds at all?) In addition, Zimbabwe had underlying structural issues which were inflationary-the natural rate of output was reduced by severely crippling the farming industry.

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