On Wednesday the Telegraph posted an article by Neil Record, who happens to be the Chair of the notorious Institute for Economic Affairs. The headlines were:
As I tweeted:
It is undoubtedly true that the Bank of England, or rather its supposed subsidiary company that runs the so-called Asset Purchase Facility that actually owns the government bonds or gilts bought under the quantitative easing programme, has made a loss as a result of the falling price of government bonds since interest rates have risen, entirely as a result of the Bank's own decision, backed by the Treasury (of course).
But there is no actual loss for three reasons. First, the APF does not have its accounts consolidated into the accounts of the Bank of England. That's because the APF is wholly indemnified for its losses by the Treasury, which has to approve all its actions. It is, in other words, in reality under the direct control of HM Treasury. So the Bank cannot make the losses Record claims.
Second, in that case, if there is an accounting loss, it is to HM Treasury.
Third, if Record knew anything about accounting he'd know that someone must have made a profit from this fall in value, because after all debits are always matched by credits. And who made that profit? HM Treasury did. In accounting, if the value of your debt falls you record a profit. It's that straightforward. HM Treasury has gained exactly the amount supposedly lost by the APF. The net impact for accounting is precisely zero right now.
But Record either did not know this, or chose to ignore it, or he does not understand accounting, or macroeconomics, or how the Bank of England works, or how the APF works. So he wrote a pile of garbage. And the Telegraph printed it.
But that's the way the right wing media works now.
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Perhaps I misunderstand, but has the Treasury necessarily made a profit?
The APF will have made an accounting loss if it is carrying the gilts at fair value (or mark to market as it used to be known) and that fair value is less now than it paid to acquire the gilts in the first place. That accounting loss is only realised on a sale: the loss would unwind if the APF held the gilts to maturity and they are repaid at par (although it would only get the low rate of interest on those gilts in the meantime).
The Treasury still has to redeem the gilts at par at maturity, but its interest cost is lower than the market rate in the meantime. Presumably that should feed back into it as the debtor carrying a lower liability at fair value. But does the Treasury use fair value accounting for its gilt liabilities?
If the APF sells the gilts today, at their current low market value – 90 say, compared to 100 on purchase – that will crystallise its loss of 10. The buyer could pay 90, say, and hold to maturity, ultimately realising a profit of 10. Where does the Treasury make a profit? It issued 100 of bonds, got the issue price it wanted, paid the coupon through the term, and redeemed at par.
The whole of government accounts use fair value
When was the last time we saw Whole of Government accounts? 2020?
If the APF sells the gilts to realise its loss, but the Treasury does not realise the corresponding profit, is there an opportunity for someone else to make money? (Not dissimilar to Gordon Brown selling gold at a historic low.)
Accepted – but it does reveal the true position
I’ve never understood why Whole of Government Accounts data is rarely quoted in economic analyses. As the consolidated accounts for the UK Gov, it’s the only data that reflects the overall economic realities with inter-departmental debits and credits cancelling each other out. I came to the conclusion that it’s ignored in order to facilitate confusion for political ends, which simply underlines the dishonesty and deception which plague UK politics and the unsuitability of the whole political system from FPTP voting to needlessly catastrophic economic policies foisted on the public.
Agreed
And we are back with the ‘mark to market’ issue. Again. I would love to see a book published of papers (standard academic format), edited by you Richard, and Clive; in which you select specialists on the series of issues continually recycled on the BoE and Treasury covering the issues of the APF (espacially mark-to-market); the DMO operations (in the context of crises); money creation and QE (including the logic of the methodology used); Reserves (in the context of crisis); double entry bookeeping for Debt between BoE and Treasury and the problem of consolidation (especially QE).
These are just examples and my selection is not intended to be decisive or comprehensive (you would select your own – this is just a proposal). The writers could be chosen by you and Clive (including both of you for the topics you choose to address personally), from a list of informed specialists you know, and I can only surmise you could call on. This means we have a book that ‘covers the ground’ without burdening you with writing a whole book, given the calls on your time.
This is just a specualtion, but i would love to see it. A ‘one stop’ shop for all of us interested in these issues would be an invaluable resource, and a contribution to our knowledge and understanding.
It’s a great idea – but beyond my capability in time terms, I am afraid
You could do worse than the recently published UCL paper that covers much of the sausage making: https://www.ucl.ac.uk/bartlett/public-purpose/publications/2022/may/self-financing-state-institutional-analysis
Mr Gomersall,
Many thanks for this. I am still absorbing it, but my first response I thought I should make here. It is best expressed in the words of the UCL-IIPP authors, Berkeley, Tye, Ryan-Collins, Voldsgaard and Wilson, here – and please forgive the length of the quote, but it covers important ground (Introduction, p.2):
“The account presented broadly aligns with descriptions of the US Federal spending process outlined by scholars in the neo-chartalist or Modern Monetary Theory (MMT) tradition (Bell 2000; Fullwiler 2017; Tymoigne 2014). However, we provide important additional institutional detail regarding the apex of the ‘monetary hierarchy’ in the UK case. Furthermore, while the neo- chartalist literature emphasises the role of debt management in achieving the central banks’ targeted short-term interest rate (Bell 2000; Tymoigne 2014), we find that the main purpose of public bond instruments in the UK today is to support the non-bank private sector’s desire for a secure store of value and source of collateral, in particular in repo markets. Public debt issuance is no longer a key instrument for controlling the short-term interest rate since the introduction of interest on central bank reserves in 2006 and given the excess liquidity in the commercial banking system created by the programme of quantitative easing (QE) initiated in 2009. In this light, the UK’s current debt management focus on ‘fully funding’ public expenditures — via either raising taxes or borrowing — appears arbitrary and potentially at odds with the functional purpose of private sector bond purchases. This applies particularly under QE, which has involved removing government bonds from the balance sheets of the non-bank private sector on a massive scale.
Our analysis suggests that four of the main purported constraints on government spending are not valid, namely: lack of money (liquidity risk), default risk, bond market discipline and the necessity to repay debt. In regard to debates around central bank independence, we find that the UK Government’s power to spend independently of the central bank’s monetary policy position is much less constrained than is commonly thought, given the central role of the CF and the importance of government securities (including indemnities and guarantees) within the monetary and financial system. This undermines — in the UK case at least — critiques of MMT, which argue that the central bank and treasury should not be consolidated for analytical purposes on the grounds of the operational independence often granted to central banks (Lavoie 2013; Palley 2015).”
Since they identify their own wrinkle in terms of the hierarchy of money, I am glad to say they acknowledge Mehrling, but a little later than the summarising quotation I selected.
Thanks
I should have made clear that the acronym CF in the UCl-IPP paper above stands for Consolidated Fund (the Government/Treasury’s general business bank account at the Bank of England).
More pointedly:
‘Our analysis suggests that four of the main purported constraints on government spending are not valid, namely: lack of money (liquidity risk), default risk, bond market discipline and the necessity to repay debt. In regard to debates around central bank independence, we find that the UK Government’s power to spend independently of the central bank’s monetary policy position is much less constrained than is commonly thought, given the central role of the CF and the importance of government securities (including indemnities and guarantees) within the monetary and financial system.’
Thank you for this Henry and thank you John for getting us started.
The whole business about Truss and Kwarteng is a complete paradoxical mess to me. They were actually kicked out on the basis of lies – the chief ones being what tax cuts were going to do in creating ‘lack of money (liquidity risk), default risk, bond market discipline and the necessity to repay debt’. It just goes to show you how much Neo-liberalism has got us all tied up in knots.
I’m no fan of ANY Tory believe you me and I do not mourn her passing but this point needs to remembered as if we ever get the chance to use MMT, the same lies will be marshalled against it.
And now we have another bunch in doing hard line money starvation for it’s people.
Tim Snyder’s observation that ‘the only idea is that there are no ideas’ as a basis for a full descent in Fascism ARE with us in these times.
Agreed
More detail that (I understand) served as the basis for the UCL paper is the GIMMS working paper by three of the same authors: https://gimms.org.uk/2021/02/21/an-accounting-model-of-the-uk-exchequer/
I understand it was quite an undertaking to produce that.
Ah! I had come across their previous Gimms work; but this is the 2nd edition, and from what the authors say has clarified and refined their analysis, following responses to the 1st edition. I recall I had found the 1st edition interesting, but not perhaps as clear to follow on the mechanics as I had hoped; and I now look forward to reading the refinements in the 2nd edition, in the hope and expectation of the illumination I was originally looking for. The UCL paper also usefully provides a wider insight into their approach to the central banking issues. Thanks again Mr Gomersall.
I would add that the BoE approach, always couched in terms of ‘borrowing’, combined with the fact that, at the crucial point where the double-entry should resolve in the Consolidated Exchequer Balance Sheet; but which, in a puff of smoke an mirrors, “is never formally enumerated as the Consolidated Fund does not prepare a balance sheet In the Whole of Government Accounts”; disappears magically into the ether. In consequence gullible politicians and ideologically brainwashed bankers can persuade themselves that all Government money is borrowed from taxpayers; in spite of the fact that the taxpayer issues no money, creates no new money sui generis, and has no capacity or authority to charge tax; but somehow the sovereign power that alone sanctions money creation and the power and authority to tax, does neither, bends to the primacy of the taxpayer; and the origin of the money the tax payer uses thus remains one of the great mysteries of the world (I do them the courtesy of presuming they are not still trying to peddle fractional reserve banking as the fount of wisdom in this field).
The 2nd edition offers to provide the detailed accounting approach which, I hazard Richard will approve of, at least in principle. It reminded me a little of a Mehrling lecture, an exploration of the power of double-entry bookkeeping in monetary policy, but since Mehrling’s lectures are orientated to the US Fed., invaluably Berkeley, Tye and Wilson are focused specifically on the accounting mechanics of BoE and Exechequer. Here is an excerpt from their summarising ‘Postscript’ (p.127):
“The accounting model presented in this study suggests there exists, however, a fundamental asymmetry in the roles of HM Treasury and the Bank of England. The model shows that, like any other bank, the Bank of England’s capacity to create money is limited by the assets it can obtain a charge over. When the Bank of England undertakes market operations (e.g Quantitative Easing) it is not creating liabilities in isolation but is discounting a government security in the same way that a commercial bank discounts a loan into its own liabilities. The ownership of the asset leads to the creation of the liabilities, not the other way around, and therefore there is no sui generis asset on the balance sheet of the Bank of England. Commercial bank reserve deposits are functionally loans to the Bank of England (on terms determined by the latter) and in this sense even the issuance of reserves can be construed as ‘borrowing’ from the private banking system. But similarly, the Bank of England’s holding of gilts and Ways and Means advances are effectively deposits at the National Loans Fund and thereby represent a loan on terms decided by HM Treasury. The National Loans Fund, in turn, has a deposit with the Consolidated Fund on terms decided by law in the National Loans Act 1968.
The Consolidated Fund, however, has no deposit with any other body, and the apparent negative Equity is the reflection of the provision of a net money supply to the private sector. Implicitly, the Consolidated Fund does hold a sui generis balancing asset, though this is never formally enumerated as the Consolidated Fund does not prepare a balance sheet In the Whole of Government Accounts it is described as “liabilities to be funded by future revenues”.
The reference to “liabilities to be funded by future revenues” came as a reminder to me that in spite of the modernity of the issues, the understanding of the Exechequer is deeply historical. It is at root consistent with the functional operation, and the intuitions of the Exchequer in the early 18th century. At the same time the thinking is revealed to have been by-passed by modernity. The paper trenchantly summarises the recent development of monetary policy changes in recent years (‘Introduction’, p.2):
“Notable changes in this period include the establishment of the National Loans Fund in 1968, the development of the gilt repo market in the mid-1990s, the granting of ‘operational control’4 of monetary policy to the Bank of England (1997), the establishment of the Debt Management Office (DMO; 1998) and the associated transfer of government debt (1998) and cash (2000) management away from the Bank of England, the move by the Bank to paying ‘interest on reserves’ rather than undertaking daily Open Market Operations (2006), the establishment of the Government Banking Service (GBS) in 2008 and the Asset Purchase Facility in 2009. The system of Government finance (and surrounding apparatus) is now seemingly more complicated than previously, involving a greater number of, sometimes quite opaque, institutions. In addition, Government finance is associated with a paucity of documentation: there is little information in the public domain that clearly describes and synthesises the interlinkages between these parts, or the system as a whole.”
This suggests to me an implicit complexity that must have consequences in turn compounding the complexity of the outcomes; the unforeseen consequences, indeed the unforseeable consequences – the unkown unknowns. Minsky crystallised the understanding that equilibrium theory was false. He made the prediction of a future frash, and the reasons where the neoliberals floundered with inadequate mathematical models and vacancy in place of observation: ‘the Minsky moment’. But Minsky did no foresee the dynamic consequences of the digital age in monetisation. Minsky foresaw cycles of boom and bust in terms of years and decades.
We are now making the transformation from a time value of money not measured in weeks, months or years, or even hours; but nanoseconds – the quantum atomisation of monetary time. The lessons of the Crash had been learned. Liquidity was king. In the labyrinthine way of Exchequer and BoE the soultion led to interest being paid on reserves, among the strange consequences. But did it fix the problem?
along cmae the LDI crisis; Pension funds facing Armageddon in a matter of hours. I see no evidence that Exchequer and BoE have adjusted to what I term the ‘quantum time’ of the digital monetary age. At least, that is what I observe.
I think you may well be right
Can’t read The Telegraph article – but the headline is plain wrong.
Chasing around trying to see which government entity has made a profit or loss is a waste of time…. but if Mr. Record insists…
“Losses” on the APF are born HMT and profits/income from the APF goes to HMT. So, if anyone is “losing” it is HMT.
However, this is not true either. Without the APF buying gilts there is no way the HMT could have sold gilts at such incredibly low yields over the last few years. If they had sold only to the private sector during that period then it would have been at much higher yields locking in much higher interest rate costs over the life of those gilts.
From a (game) theoretical perspective there is no reason to think that the strategy actually pursued should cost HMT more… although from a practical perspective, telegraphing your intentions to the market prior to acting would encourage front running by traders that probably means there is a small cost associated with the process….. but equally, that “telegraphing” is part and parcel of conducting monetary policy these days.
Thanks
Oh well, at least the IEA are consistent.
The get everything wrong.
Of course the IEA knows all this. They are just a lobby group for, I assume, the worst kind of ‘business’. They will spout anything that might distract from the truth. It’s all a game for them. Who made fortunes when Lizz Truss crashed the economy on IEA advice?
The IEA do not want to understand anything. Understanding is not the goal here. Confusion, obfuscation and stymieing of a viable bloc of consensus are the objectives of these fanatics.
Fanatics only understand their own internal dialogue.
And the way fanatics get their internal dialogue or minority viewpoint externalised is through the political methodology of Fascism.
We have to accept that Fascism exists in so-called democracies as a method to win over or programme people to accept something.
The Germans were taught and programmed (a lot of them anyway) to see the persecution and destruction of Jews and the persecution of a war as acceptable by having these ideas rammed down their throats time and time again.
The British people have been exposed to the same techniques in reinforcing the royal family, justifying BREXIT and vilifying immigrants.
Democracies have co-opted Fascism as political tool and no longer see that it is wrong or even aware that is is fascistic in practice. Even Labour’s ‘For the many, not the few’ is a form of fascistic methodology.
The IEA is part of the practice of fascism in this country as is Tufton Street and our media.
None of this will change until the practice of Fascist methodology in this country is recognised and dealt with and out lawed. I’m serious.
Fascism is World War II’s most enduring legacy even though it was a war against it. We have to accept this problem first in my view.
It is THE problem