Whilst the casual observer might think that the QE era is over in fact it is alive and kicking with the Bank of England in action again this afternoon.
Date of operation 26/03/18
Total size of operation Stg 1,220mn
Stocks offered for purchase
This is part of what has become called an Operation Twist style manouevre where maturing bonds held by the Bank of England are reinvested in the market. It is in fact an expansion of the policy not so much today as relatively short-term Gilts are purchased but tomorrow it will stretch out to 2065 as longer maturities join the party. Also if you look at the third Gilt on the list there is a reminder of when the August 2016 Sledgehammer QE launched a kamikaze style assault on the Gilt market and the ten-year yield fell to 0.5%. Of course it was not a ten-year itself but it was a child of those times as I mull whether we will see its like again?
The answer to that question is not without another surge of buying from the Bank of England which brings us to an economic benefit from the current QE. It is that it allows the UK government to borrow more cheaply. This of course has been true of all phases and poses the question of whether this was the real point all along? Initially probably not as the Bank of England struggled to deal with the credit crunch but as time passed as governments got used to borrowing cheaply I am sure there will have been pressure for that to continue. You will have your own thoughts on this. From my perspective I think it is a combination of the Bank of England being nervous on the subject as I discussed on Friday and pressure from the establishment. After all how often does this get a mention outside of on here?
Without QE the UK government would not be able to borrow at 1.47% for ten years as it can this morning. Quantifying the exact impact is near impossible though as we are impacted by foreign QE purchases as for example Japanese and European buyers would be along if our yield rose. But buying £435 billion out of £1,547 must have had an impact especially as the latter number includes index-linked Gilts which have not be bought.
This is another area which tends to get forgotten. On Friday a Bank of England working paper entered the fray.
As part of its August 2016 policy package, the Bank of England announced a scheme to purchase up to
£10 billion of corporate bonds. Only sterling investment-grade bonds issued by firms making a ‘material’
contribution to the UK economy were eligible to be purchased.
I put in the last bit as there were a lot of questions about some of the companies on the list as this from the Guardian from the 13th of September 2016 highlights.
When the list of eligible companies was published on Monday, one major bond dealer said he was astonished at the names included.
Verizon, a US cell phone network, is on the list, as is another big US telecoms company, AT&T, despite both firms arguably having minimal operations in the UK.
I have pointed out in the past the purchases of the corporate bonds of Maersk the Danish shipping company for which the Danes were no doubt grateful. Indeed Especially grateful as Maersk found stormy waters.
But what about the gains?
These purchases were aimed at stimulating investment activity by lowering corporate bond yields which reduces firms’ borrowing costs and stimulates
new issuance………We find that compared to sterling investment-grade corporate bonds that are
not eligible for the CBPS, the spreads of eligible bonds decreased by about 2-5bps after the announcement of the scheme.
Not much so they had another go.
Compared to corporate bonds denominated in USD, spreads of sterling assets fell by 13.8bps, and compared to
EUR bonds by 13bps after the policy was announced.
We are told that this is the lower bound for the impact ( where have we heard that before?) but unfortunately for the authors the answer is rather similar to the initial foray into private-sector assets by the European Central Bank.
: Beirne et al. (2011) who estimate the effect of the
ECB’s covered bond purchase program (CBPP) that took place between 2009 and 2010. They find that the CBPP lowered euro area covered bond yields by about 12bps.
So the conclusion is that there is not much of an impact at all. Although whilst the Bank of England may think this I am not sure anyone else does.
Because the announcement of the CBPS caught the market by surprise,
After it had promised a “Sledgehammer” I am not sure that anything of that sort could be a surprise. However let us move on with the conclusion that the Bank of England was right in 2012/13 when it made some purchases but then gave up as the impact seems minimal.
What about QE overall?
If we go back to a sort of mainlining QE we have been told this by the Bank of England.
According to the reported estimates of the peak
impact, the £200 billion of QE between March 2009 and
January 2010 is likely to have raised the level of real GDP by 1½% to 2% relative to what might otherwise have happened, and increased annual CPI inflation by ¾ to 1½ percentage points.
As you can see central banking research implicitly assumes that higher inflation is a good thing although oddly post the EU leave vote not so much. But if we look at the level of QE we have now then the economic impact is a bit over double that. Keen to make people individually better off the Bank of England also calculated this.
£500–£800 per person in aggregate
Updating that brings us to £650 – £1070
Or to put the effect another way.
For comparison, a simple ready-reckoner from the primary forecasting model used by the Bank of England suggests that a cut in Bank Rate of between 250 and 500 basis points would have been required to achieve the same effect.
Personally I think that this is far from the best example as whilst my theory is untested a Bank Rate between -2% and -4.5% would in fact lead to the collapse of the pension system and torpedo the banks.
There is a fair bit to consider here. Firstly there is the moral hazard of the research being carried out by the body implementing the policy.. For supporters there must be nagging worry which goes as follows. If it was so good why do we still need it? We continue to make purchases to maintain the stock at £435 billion. In my view the main gainer from that is the government as it can borrow more cheaply. Also the research clearly implies that higher inflation is a good thing when one of the main impacts of the credit crunch both collectively and at the individual level is lower real wages where inflation is a factor.
Then there is the issue of where the gains from QE went.
By pushing up a range of asset prices, asset purchases have
boosted the value of households’ financial wealth held
outside pension funds, but holdings are heavily skewed with
the top 5% of households holding 40% of these assets.
By definition wealth effects are unlikely to help those hardest hit by the credit crunch. Also Bank of England rhetoric that pensions ( mostly meaning defined benefit ones) were unaffected by this was undermined by its own actions.
It has emerged that employees, led by the Bank’s governor, Mark Carney, received the equivalent of a 50%-plus salary contribution into their pensions last year, underwritten by the taxpayer. ( the Guardian February 2016).
Next is the issue of propping up zombie companies and banks after all wasn’t RBS supposed to be surging into the future some years back?
Will we one day conclude that whilst QE may have had some impacts over time the side-effects build up and eventually would make it a negative.