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Chancellor gets £35bn QE windfall

by Chris Marshall on Nov 09, 2012 at 15:30

Chancellor gets £35bn QE windfall

The UK economy has been dealt what the Bank of England says ‘amounts to a small loosening of monetary policy’ following a decision to transfer the income from gilts the Bank bought in its quantitative easing (QE) scheme to the Treasury.

The money, which will amount to some £35 billion by March 2013 – with regular payments to follow – will be used by the Treasury to reduce government debt, but economists are already warning of the long-term consequences of the transfer.

The Bank’s monetary policy committee (MPC), which yesterday voted against extending its bond-buying stimulus scheme beyond the existing £375 billion of money it has created to fund the purchases, said the move would have an effect similar as extending QE by the same amount.

Until now, the money from gilt coupons has been held by the Bank of England, but the move brings the Bank’s policy in line with easing schemes undertaken by central banks in Japan and the US, the Treasury said, while arguing that the previous arrangement was ‘economically inefficient'.

The transfer provides a clear short-term boost to the chancellor ahead of his Autumn Statement in December.

Michael Saunders, an economist at Citigroup, said of the plan: ‘The reduction in the debt/GDP ratio may just about be enough for the Office for Budget Responsibility to project that the government will probably hit its target of a falling debt/GDP ratio in 2015/16, whereas previously that appeared out of reach.’

This monetary loosening is, however, likely to be temporary because, as the Bank of England governor Mervy King (pictured) stated in his letter to the chancellor: 'It is likely to lead to the need for reverse payments from the government to the APF in the future as the Bank rate increases and the APF's gilt holdings are unwound by the MPC.'

Saunders added: ‘This may be a key reason why the MPC decided not to expand QE further at yesterday’s meeting.’

Ross Walker of RBS said that although the transfer announcement is a short-term positive for the UK government's funding operations, 'it will inevitably raise questions/concerns about public debt "monetisation" and, more generally, the relationship between the Treasury and the operationally independent central bank.'

Malcolm Barr of JP Morgan expressed concern that the APF cash pile had originally been viewed as a safety net to offset potential losses when the Bank sells the gilts when economic conditions return to normal.

He said: ‘we were much more comfortable with the idea of the coupon profits sitting within the APF as a buffer, which could soften the scrutiny of the fiscal implications of losses on gilt holdings when monetary tightening was eventually needed.’

The transfer of cash to the Treasury would increase scepticism that the Bank of England will ever sell the gilts it has bought, he said.  

Andrew Sentance, a former member of the MPC, warned via Twitter: ‘Monetary policy now has fiscal consequences. When/if BoE unwinds QE, the deficit will look worse!'

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