Is the Bank of England financing the UK government?

Today’s subject does have historical echoes as who can consider this sort of topic without thinking at least once of Weimar Germany with its wheelbarrows full of bank notes and Zimbabwe with its trillion dollar note? These days we need to include Venezuela which cannot even provide a water supply now. There are three good reasons therefore why central bank Governors should tread very carefully around this particular subject. So it was curious to see the Governor of the Bank of England long jump into this particular pit yesterday in a Sky News podcast.

The government would have struggled to fund itself if the Bank of England had not intervened during the market “meltdown” of COVID-19, the Bank’s governor has told Sky News.

In an exclusive interview, Andrew Bailey said that in the early stages of the virus, Britain came within a whisker of not being able to sell its debt – something many would characterise as effective insolvency.

There are elements of the first paragraph which are true but “came within a whisker of not being able to sell its debt” is a curious thing to say and if we are being less kind is in fact outright stupid. We are also guided by Sky News to this.

While there was an uncovered gilt auction in 2009 – in other words, the government was unable to find buyers for all of the debt it was selling to investors – it was widely seen as a one-off.

They are trying to make this sound a big deal but it isn’t really. For example over the past few years I can recall Germany having several uncovered bond or what they call bund auctions. Nobody considered them to be within a whisker of being unable to sell their debt, in fact Germany had a very strong fiscal position. Here as an example id CNBC from the 21st of August last year.

The bund, set to mature in 2050, has a zero coupon, meaning it pays no interest. Germany offered 2 billion euros worth of 30-year bunds, and investors were willing to buy less than half of it, with a yield of minus 0.11%.

What was it about having to pay to own the bond and do so for around 30 years that put investors off? That of course provides the clue here which both Sky and Governor Bailey either have not figured out or are deliberately ignoring. The debt did not sell because of the price at which it was offered was considered too expensive. Germany could have sold its debt if it was willing to pay more,

How did the Bank of England respond?

Mr Bailey warned that the dislocation in markets in March was even more serious, prompting the Bank to intervene with £200bn of quantitative easing – the biggest single cash injection in its history.

Actually it also cut Bank Rate to 0.1% and there is significance in the date which was the 19th of March. That is because the price of our debt was rising which has been summarised by the Governor like this.

The governor said: “We basically had a pretty near meltdown of some of the core financial markets.

“We had a lot of volatility in core markets: the core exchange rate, core government bond markets.

“We were seeing things that were pretty unprecedented, certainly in recent times. And we were facing serious disorder.”

If we look at the UK we were seeing a rise in Gilt yields as the benchmark ten-year yield rose quickly from an all-time low of 0.12% on the 9th of March to 0.87% on the 19th. We have seen much worse in the past and I have worked through some of them! In historical terms we still had very low Gilt yields and so it looks as if we are seeing another case of this from a central bank.

Panic on the streets of London
Panic on the streets of Birmingham
I wonder to myself
Could life ever be sane again? ( The Smiths)

The job of calming down world financial markets was a dollar issue and was dealt with the next day by the US Federal Reserve.

The Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank are today announcing a coordinated action to further enhance the provision of liquidity via the standing U.S. dollar liquidity swap line arrangements.

We will never know now how much things would have improved in response to this as a panic stricken Bank of England fired as many weapons as it could. As a technical factor overseas QE bond buying helps other markets via spread and international bond buyers. Whether that would have been enough is a moot point or as central bankers regularly try to point out, the counterfactual! We do know from experience that it is a powerful force exhibited in say Italy which only saw bond yields rise to 3% and that only briefly recently as opposed to 7% last time around.

Anyway even the relatively minor rise in UK Gilt yields has the Governor claiming this.

Asked what would have happened had the Bank not intervened, Mr Bailey said: “I think the prospects would have been very bad. It would have been very serious.

“I think we would have a situation where in the worst element, the government would have struggled to fund itself in the short run.”

Okay so he is in effect claiming to have funded the government although not long afterwards he claims that he is not.

The Bank’s decision to create so much money and use it to buy government bonds, including an extra £100bn only last week, has prompted some to ask whether it is in effect financing the government’s borrowing. Mr Bailey rejected the accusations of “monetary financing”.

“At no point have we thought that our job was just to finance whatever debts the government issue,” he said, pointing out that the objective was to ensure economic stability.

Ah so not inflation targeting then?

Comment

The situation here was explained back in the day in an episode of Yes Prime Minister and the emphasis is mine.

We believe that it is about time that the Bank ( of England) had a Governor who is known to be both intelligent and competent. Although an innovation it should certainly be tried.  ( Treasury Permanent Secretary Sir Frank)

As you can see this was a topic in the 1980s and it still is. The present Governor was in such a rush to indulge in “open mouth operations” to boast about his role in the crisis that he not only overstepped the mark he made some factual errors. The UK government could have funded itself but it would have to have paid more for the debt. It could have activated the Ways and Means account earlier than it did as well if needed ( we looked at this on the 9th of April). So we see several of my themes at play. The Bank of England is implicitly but not explicitly funding the UK government right now just like the Bank of Japan, ECB and US Federal Reserve,something I pointed out on the 6th of April.

Let me finish off on the subject of monetary financing. The simple truth is that we have an implicit form of it right now.

This means that it is about as independent as a poodle (another theme). It tends to panic in a crisis and new Governor’s tend to reward their appointment with an interest-rate cut. I cannot take full credit for the latter as that was in Yes Prime Minister as well.

Also in the podcast was a reference to this.

The governor signalled that the government may need to consider finding a vehicle to resolve the many bad debts left by companies that fail over the COVID-19 period.

“If (a bad bank) were to be contemplated, it would be as a sort of an an asset management vehicle: how do we manage small firms through a problem that they would get as a result of the loans that they’ve taken on to deal with the crisis?”

Somebody needs to tell him the UK taxpayer has one of those and it is called Royal Bank of Scotland with a share price of £1.24 as opposed to the Fiver we “invested” at.

Let me finish by giving Governor Bailey some credit for a burst of much needed honesty.

“We’ve been mis-forecasting the labour market for some time because the traditional models just didn’t seem to hold.

We can add that to his apparent enthusiasm for changing policy on the subject of any QT in a direction I have been recommending since September 2013.

Podcast

 

 

Will the new Bank of England Governor cut interest-rates like in Yes Prime Minister?

Today has brought something I have long warned about into focus. This is the so-called improvement made by Bank of England Governor Mark Carney where it votes on a Wednesday evening but does not announce the results until midday on a Thursday. With it being a leaky vessel there was an enhanced risk of an early wire for some.

The City watchdog is to investigate a jump in the pound which took place shortly before the Bank of England’s interest rate announcement on Thursday.

The rise has raised questions over whether the decision to hold the Bank’s base rate at 0.75% had been leaked.

The Financial Conduct Authority (FCA) said: “We are aware of the incident and are looking into it.”

In December, the Bank referred to the FCA a leak of an audio feed of sensitive information to traders.

The value of sterling increased about 15 seconds before midday on Thursday, when the Bank’s Monetary Policy Committee (MPC) made its announcement.

It rose from $1.3023 to $1.3089 against the dollar, and saw a similar increase against the euro.

( BBC )

Actually the Pound had been rallying from much earlier in the morning but perhaps the FCA was not up then. As to the enquiry we know from the TV series Yes Minister how they work.

That’s what leak enquiries are for.
Setting up.
They don’t actually conduct them.

In fact it gets better.

Members may be appointed, but they’ll never meet, and certainly never report.
How many leak enquiries can you recall that named the culprit? – In round figures.
– If you want it in round figures none.

For those of you who have never watched this series it described the UK system of government with both uncanny accuracy and humour. This week alone we saw the Chancellor call for expenditure cuts of 5% exactly as predicted. They will be promised and claimed but somehow wont actually happen if the series continues to be so prescient.

Press Conference

This was a classic Unreliable Boyfriend style performance proving that the Governor has not lost his touch. After hinting and not delivering an interest-rate cut he then in yet another innovation the Monetary Policy Report ( just like in Canada ) cut the expected economic growth rate.

Taken together, potential supply growth is projected to remain subdued, and weaker than expected a year ago.
The MPC judges that potential supply growth will remain subdued over the forecast period, at around 1% on average.
It initially falls a little from its current rate of around 1%, before rising to around 1½% in 2023 Q1.

The problem here was exposed by a good question from the economics editor of the Financial Times Chris Giles who asked why this had fallen so much in Governor Carney’s period of office? You always have an indicator of a hot potato when the question is quickly passed to a Deputy Governor. As ever the absent-minded professor Ben Broadbent waffled inconsequentially as he waited for the audience to lose the will to live. But there are clear underling issues here. The recent one is the fall in the speed limit form 1.5%  to 1% as implied here but as Chris highlighted it had already nearly halved. What Chris did not highlight but I will is the impact on this of the woeful “output gap” style thinking which I will illustrate by reminding you that the Governor originally highlighted an unemployment rate of 7% and now in the MPR we are told this.

The MPC judges that the long-term equilibrium unemployment rate has remained at around 4¼%

That is a Boeing 737 Max style error.

Today’s Data

It is hard not to recall Governor Carney tell us “this is not a debt-fuelled recovery” as you read the numbers below.

The extra amount borrowed by consumers in order to buy goods and services increased to £1.2 billion in December, in line with the £1.1 billion average seen since July 2018. Within this, net borrowing on credit cards recovered from a very weak November to £0.4 billion. Net borrowing for other loans and advances remained the same as in November, at £0.8 billion.

As you can see we are little the wiser as to why credit card spending fell in the way in did in the previous release ( November data). It may just be one of those things because the surrounding months were relatively strong a bit like we often see with the UK pharmaceutical sector which does not run in even months.

A consequence of this is below.

The annual growth rate of consumer credit rose to 6.1% in December, having ticked down to 5.9% in November. The growth rate for consumer credit has been close to this level since May 2019. Prior to this it had fallen steadily from an average of 10.3% in 2017.

So after rocketing it is merely rising very strongly! From. of course, a higher base. Can anybody think of anything else in the UK economy rising at this sort of rate? It is six times the rate at which the Bank of England now thinks the economy can grow at and around double wages growth.

Actually household consumption full stop picked up.

Net mortgage borrowing by households was £4.6 billion in December, above the £4.2 billion average seen over the past six months. Despite these stronger flows, the annual growth rate for mortgage borrowing remained at 3.4%. Mortgage approvals for house purchase (an indicator for future lending) also picked up in December, to 67,200, above the 65,900 average of the past six months. Approvals for remortgage rose slightly on the month to 49,700.

For newer readers this continues a trend started by the Funding for Lending Scheme which began in the summer of 2012. It took a year to turn net mortgage lending positive but over time this example of credit easing has had the effect you see above. Of course in true Yes Minister style it was badged as a policy to boost small business lending, how is that going?

Within this, the growth rate of borrowing from large businesses and SMEs fell to 4.4% and 0.8% respectively.

Actually and you have to dig into the detail to find this for some reason, smaller business borrowed an extra 0 in December which followed an extra 0 in November.

Comment

The last 24 hours have been an example of the UK deep-state in action. For example the ground was set for the new Bank of England Governor Andrew Bailey to reward the government with an interest-rate cut in return for his appointment just like in Yes Prime Minister. Meanwhile as head of the FCA he can make sure that the leak enquiry into the current Governor does not impact in his own term in a sort of insider regulation response to possible insider trading.

Meanwhile the new Governor has already lived down to his reputation for competence.

The Financial Conduct Authority (FCA) said most High Street banks had set “very similar prices”, after it demanded changes to the system.

Several big brands including Santander, Lloyds Banking Group and HSBC are set to bring in a 39.9% rate this year.

The FCA has sent a letter to banks, asking them to explain what influenced their decision.

The City regulator has also asked how the banks will deal with any customers who could be worse off following the changes.

Yep the reforms of the FCA have more than doubled overdraft rates for some. Today’s Bank of England release has picked up a bit of this as its quoted rate is now 20.69% adding to something that I have reported throughout the life of this blog. Official interest-rates may fall but some real world ones have risen.

So as we consider Bank of England Governors let me leave you with one of the finest from the Who.

I’ll tip my hat to the new constitution
Take a bow for the new revolution
Smile and grin at the change all around
Pick up my guitar and play
Just like yesterday
Then I’ll get on my knees and pray
We don’t get fooled again
No, no!
We don’t get fooled again