Today it is the turn of the UK to take centre stage and we can open by in an accident of chance start by looking at things via the Bank of England. I have been pointing out for several weeks that this time around its job was simple, to defend the UK Pound. But iy would appear that even such a simple message is too much for it to comprehend.
At its meeting ending on 21 September 2022, the MPC voted to increase Bank Rate by 0.5 percentage points, to 2.25%. Five members voted to raise Bank Rate by 0.5 percentage points, three members preferred to increase Bank Rate by 0.75 percentage points, to 2.5%, and one member preferred to increase Bank Rate by 0.25 percentage points, to 2%.
Whilst ordinarily I would welcome a little divergence this was not the time for it as we see that only a third of the members got the currency memo and voted for 0.75% to match the US Federal Reserve. Actually one of them may not have done.
BOE Monetary Policy Committee Haskel: I Do Not Worry That Much About Sterling ( @PriapusIQ)
That is really rather troubling when it is part of its job and the US Dollar is rebounding around the world like a wrecking ball. Looking at the other side of the coin it is hard to know where to start with this from the newest member Swati Dhingra
One member preferred a 0.25 percentage point increase in Bank Rate to 2% at this meeting.
She appears to have missed both the currency crisis and the surge in inflation which do not seem to have reached her Ivory Tower. Someone replied to me on social media that she was “world class” which I think merits an entry in my financial lexicon for these times.
I have warned for many years that the Bank of England plans for what has become called Quantitative Tightening or if you prefer reverse-QE were rather stupid. This is because under it you would find that the largest holder of UK bonds would be selling into a falling market. What could go wrong?
Even worse we all know that the UK will announce a lot more borrowing today of the order of £150 billion. So now was even less likely to be a good time for the Bank of England to start QT. And yet we got this.
all members of the Committee agreed at this meeting that the Bank of England should reduce the stock of
UK government bond purchases, financed by the issuance of central bank reserves, by an amount of £80 billion over the next twelve months, comprising both maturing gilts
and gilt sales, to a total of £758 billion.
We can look at the situation with a wider context. Yesterday the yield for the US ten-year rose by 0.2% to 3.7% so bond markets generally were in decline and in fact not far off a rout. That is exactly the wrong environment to be selling bonds into. If we now look at the UK we see that the UK ten-year yield has doubled since the 2nd of August when it was 1.75% as opposed to the 3.5% overnight.
We are in fact seeing a serious problem with QE which again is something I have warned about over time as it was never a free lunch.The Bank of England pays Bank Rate on it so is now paying 2.25%. You do not need to take my word for it because rumours of a change in the rules give it away.From Bloomberg.
UK Prime Minister Liz Truss’s new government has looked at changing the Bank of England’s money-printing program to save the UK taxpayer billions of pounds at a time when the public finances are under increasing strain.
Under the option, interest paid on some deposits held by commercial lenders at the BOE would be scrapped, potentially saving more than £10 billion a year, based on calculations with the benchmark interest rate at 2.5%.
Is this why the Bank of England insiders limited their votes to give us a 2.25% Bank Rate?
Once the BOE’s benchmark interest rate is around 2.25%, the interest paid on reserves will be greater than the income from gilts and, under the QE indemnity with the Treasury, the government will start transferring funds to the BOE.
This is a generic iissue by the way and I note that others have been catching up with my warnings in this area. Let me illustrate from a land down under.
But one result of the change in the Bank’s balance sheet is that the Bank will report a substantial accounting loss in its 2021/22 annual accounts and, as a consequence, negative equity. ( Reserve Bank of Australia)
Okay so how much?
Over the past year, valuation losses on the Bank’s holdings of domestic bonds due to the rise in bond yields were around $40 billion. In addition, because we purchased many of these bonds at a price higher than their face value, the amount of this ‘premium’ will also be recorded as a loss over the life of the bond. Over the past year, this accounts for a further $5 billion valuation loss.
So some 45 billion Aussie Dollars. Actually it will be even more now because in the subsequent couple of days Australian bonds have also seen rising yields of around 0.2%.
The Mini Budget
Everybody knew that the UK was going to be borrowing quite a bit more after today’s Mini Budget. Many of the plans were leaked so we had a pretty good idea although the ending of the 45 pence income tax rate was a bit of a rabbit out of the hat. For our purposes we got some more detail on the extra borrowing.
The Treasury said it would ask the Debt Management Office to raise an additional £72bn in the current financial year, revising the total upwards from £161bn in April to £234bn in September. ( Financial Times)
The extra borrowing combined with the expectation of sales from the Bank of England has put the skids under the UK bond market. Those looking at new mortgages will be concerned to see the UK five-year yield reach 4%. Some of this is an initial panic but the Bank of England has got this all wrong and looks incompetent when as I pointed out earlier the new government was known to be a tax-cutting one.
One point I will make is that those higher mortgage rates ( I use the five-year yield as a leading indicator) will rather undermine this.
We’re cutting Stamp Duty Land Tax which will help more people to move, promote residential investment and boost first-time ownership. ( HM Treasury)
Our political class seem unable to grasp why first-time buyers always need “Help”
This is a big event in fiscal terms and we have as a theme charted the changes here from perceived austerity being in fashion to now where the UK government looks to be a clear fan of fiscal expansionism. Actually I think the help for energy bills was inevitable and other countries will do the same. The real issue to my mind is the ongoing failure to address a major cause of our problems which is the supply of energy. Our political class chant a mantra about wind power when as I type this it is producing a mere 2 GW this morning.
A lot has been made about there being no forecasts from the Office for Budget Responsibility today. I am much less bothered about that because the first rule of OBR Club is that the OBR is always wrong. Also if it is independent why can it not produce its own forecasts? Also of the 3 members of its Responsibility Committee 2 are alumni of HM Treasury so we are being taken for fools with the “independent” line and we should scrap it and save the money.