The Bank of England has very recently issued a press release saying that they have agreed to increase their base interest rate by one-quarter of a percent to 0.5%.
This is madness, in my opinion. Their logic is that they need to reduce demand in the economy to counter inflationary pressure. This morning most heating bills in the UK were increased substantially. An average of £693 is likely. The impact is so serious that the government is having to offer well over half of all households in the country rebates to manage the consequences. And at the same time the Bank is increasing another price - that of money itself - to supposedly counter the inflationary pressure implicit in that energy price increase. You literally cannot make up incoherence of that sort.
Potentially worse, they also announced this:
The Committee voted unanimously for the Bank of England to begin to reduce the stock of UK government bond purchases, financed by the issuance of central bank reserves, by ceasing to reinvest maturing assets. The Committee also voted unanimously for the Bank of England to begin to reduce the stock of sterling non-financial investment-grade corporate bond purchases, financed by the issuance of central bank reserves, by ceasing to reinvest maturing assets and by a programme of corporate bond sales to be completed no earlier than towards the end of 2023 that should unwind fully the stock of corporate bond purchases.
Whether or not the government holds corporate bonds is a matter of indifference to me. They were always badly chosen. There are £20 billion of them. I suspect the market can absorb the sale of these without difficulty.
The reversal of QE on gilts is much more serious. Firstly, there will already this year be, in historic terms, exceptional demand made by the government for funding from the financial markets (and I know all the MMT arguments, which will not change the fact that the demand will be made). It is likely that the government will run a deficit of £100 billion in 2022/23. Given the way it plans to operate, this sum will be demanded from the financial markets through new bond issues. This is in real terms (i.e. net of QE) already exceptional, and on top of that there will be no reinvestment by the Bank of the proceeds of gilt redemption. I am not sure the precise additional sum that this will effectively withdraw from markets. Using an average it will be not less than £30 billion.
Overall then the coming year will see an unprecedented tightening of monetary conditions in financial markets when we have by no means recovered from either Brexit or Covid as yet.
The likelihood that interest rates will need to increase significantly because of this is high.
The risk that this could precipitate a financial crisis as credit is reduced in supply, cash is withdrawn from other markets and pressure on mortgages grows leading to serious risks of default in the housing market is also high.
If you wanted to push the UK economy to its limits, and maybe beyond, this is how to do it. The Bank is forecasting a terrible year to come. They seem to be doing their utmost to make it worse.
I am worried for all the real people who are going to suffer as a result of these callously incompetent decisions.
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Typo – 0.5 % !
True
Edited in too much of a hurry…
They’ve taken leave of their senses in my view.
Do they really know what they are doing? “Eat out to help out” was supposed to increase demand in the economy. Although it failed, I cannot see why the need to increase demand following another year of virtual lockdown is not top of the BoE’s strategy is not being fostered instead of reducing demand. Do any of them really know what they are doing?
No doubt, the headlines will be about the 25bp rise in official rates… but, as you suggest, the real scary bit is the change to QE.
Gilts maturing in FY 2022/23 will be about £120bn. Now, I can’t see what the APF distribution of holdings is but if we assume it is evenly distributed across all gilts in issue then maturing gilts in private hands will be about £80bn.
Using your deficit forecast (which is reasonable) of £100bn, no reinvestment by the BoE/APF then there will be gilt sales of £220bn to the private sector. This means that investors will need to find an extra £140bn to allocate to gilts.
To put this into context, since the GFC the amount of gilts held by the private sector has risen by about £40bn a year… which is number flattered by bank holdings for regulatory reasons and an expectation of rates staying low. Where will this extra £140bn come from? This really could be a disaster and it is hard to see how the BoE can easily reverse it without complete humiliation. What happens when we get a failed gilt auction?
The obvious solution (and I have said it before) – Don’t pick numbers of gilts to buy (or not buy in the case). Pick where you want gilt yields to be and then buy or sell as many as required to achieve it.
We get to the same number and conclusion in differing ways
This, we agree, is a disaster in the making because all the decision making processes involved are wrong
They are putting up interest rates and increasing taxes at the same time as energy prices are increasing at a faster rate than any time since the OPEC crisis in the 1970s. In this serious predicament for everyone, they are using the conventional economic levers as if they were following some ancient neoliberal manual from a bygone age, to correct an overheating economic boom;activity which, conventionally would be aimed to achieve some sort of dubiously improbable and never more than fleetingly transient “equilibrium” that is some distant goal that nobody has ever seen. In fact the reality of our actual predicament the UK is only very slowly and painfully emerging from a deep economic hole; begun by the Crash, savagely exacerbated by ten years of disastrous Austerity, compounded by Brexit and a coup de grâce delievered by a Pandemic that eliminated 175,000 of our people and a vast amount of often ill-spent treasure; but only to be followed, after all that – by an energy crisis. The central question is, therefore, where is the economic boom they are trying to fix? What boom? What would equilibrium even look like – from the bottom of this mire? This looks less and less like monetary economics; and more like neoliberal theology.
It seems as if the Central Bank has literally run out of ideas, completely (Helia Ebrahimi’s cleverly understated C4 News interview of the BofE Governor tonight was – if I may change the simile – like watching a slow-motion train crash). They seem to be going through the motions, but nothing is in the right place, so nothing quite fits their conventional exppectations, or their narrow wisdom. The flaws in the uneasy gap between independent Central Bank and sovereign, political Treasury was neatly exposed.
Watching all this desperate Government/Central Bank not-quite-co-ordinated flapping around crisis issues is like going to the theatre, but just as the curtain is drawing back, the audience is suddenly confronted with the sight of the fake scenery, very slowly falling over, in a heap.
Agreed
And Helia did do a very good interview, pointing ut none of this made sense
Richard
Without wanting to turn you into Martin Lewis, what would your advice be to the general public to mitigate the impact of these decisions?
I suspect that for many there is no mitigation possible with regard to what is happening. Those who were already living on budget stretched to the limit cannot now afford to eat and eat their homes. I have a horrible feeling about the consequences of this either in terms of human misery or in the breakdown of political order. What I do know is that we have a government indifferent to the first, and maybe seeking the second.
What should people do? Protest, peacefully, is my answer. We have a government trying to sustain itself and a bankrupt economic system. The time has come to demand that both must go. Only then will people have a chance of making ends meet.
Sometimes micro solutions are not possible. This might be one such time.
If I recall correctly he got irritated with her and even resorted to brushing off some imaginary dust off his knee when he realised he is just too dumb to give her a proper answer.
£575,000 a year to say and do outrageous things. Incredible.
You can see why Neo-liberal is so popular with a segment of the population.
If this cost of living crisis carries on much longer it will have people out on the streets kicking off and the government will fall. The mood of the public is incendiary. These rises are obviously completely unmanageable for the poor, but they will also be forcing uncomfortable decisions on spending from many who were previously managing ok.
I agree with all that
Andrew Bailey tells us not to be greedy and seek pay rises after ten years of austerity and now inflation and tax rises. He says it will be painful. When you’re on £575,538 per annum these things are relative I suppose.
Quite so, as he might say…
Do we seriously believe, he even believes what he says?
If you were peddling uphill, would you apply the brakes to go even faster?
The answer to me is obvious, the Neo-Liberal agenda rolls on, no matter what the consequences are, because we are not a part of their game – they serve the interests of the few.
Nothing must interfere with profits and the free market, unless of course people wake up and vote for a real alternative, then we can start planning what kind of society we want to live in. After all Thatcher told us, they don’t believe in society, so why should they care if wealth only trickles upwards.
Isn’t it funny how after someone has been driven out by smears and lies, that some feel safe enough to offer praise and ready to admit they got it wrong and he got it right after all. https://www.youtube.com/watch?app=desktop&v=9HtMWwkRhRE&fbclid=IwAR0r0R8PTi0-VGsXQ-YuyiJVn1HmINDs-JkTokTfkuMG7Xv40-fLkUZ4usI
Gordon Brown admitting the Neo-Liberal project is a busted flush.
I have just posted this on the BoE’s The Economy Hub forum.
Thanks
Apparently, in spite of everything discussed above, the ‘Independent’ (website today) is reporting that Sunak is planning a “bonfire” of City regulations. Presumably this is the opening of Sunak’s Prime Ministerial PR drive. The Financial Crash that laid waste Britain at the time and ever since? What financial crash? Sunak and the neoliberal Braxit crew are effectively telling everyone it never happened. The future for Britain is Austerity and no regulations.
Scotland really needs to escape this catastrophic end-game for Britain if nobody is going to stop this; and who is going to stop this? Nobody. It seems the only way we can rid ourselves of Johnson is to replace him with a Goldman Sachs clone of Geithner in the US Treasury; and if you want to understand the origins of the Tea Party and Main Street emnity to Washington and Wall Street, in Geithenr’s policies read Barofsky, ‘Bailout’. Barofsky wrote of Geithner: “I repeatedly warned Geithner and his Treasury team of the anger and disillusionment that would follow their bank-centric policies, and publicly stated when I stepped down that the resulting loss of faith made it politically impossible for the government to take the necessary steps to shore up our financial system when the next crisis strikes” (Barofsky, ‘Bailout’; p.233-234).
I would merely add that the same case may be made, ‘mutatis mutandis’, for any chance in Britain that recovery from Covid, Brexit and Government failure in Britain will lead to genuine improvements in the living conditions of ordinary people. Everyone in Britian is being used and abused by this Government.
This would be a disaster