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.
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”
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.
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.