Factbox: Giving up gilts: how the Bank of England plans to reverse QE


City workers walk past the Bank of England in London February 13, 2008. REUTERS/Toby Melville (BRITAIN)

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LONDON, Feb 1 (Reuters) – Under pressure to act against rising inflation, the Bank of England appears ready to explain how it will reduce the vast amount of British government bonds it has bought over the past decade in repeated attempts to stimulate economy.

Most economists polled by Reuters believe the BoE will raise interest rates to 0.5% on Thursday, the threshold at which it has said it will begin unwinding its 895 billion pound quantitative easing program. billions of dollars).

The BoE has bought £875bn of British government bonds (or gilts) from investors, financed by creating new bank reserves into the seller’s bank account. It has also bought around £20bn of corporate bonds.

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Gilt purchases helped lower the cost of government borrowing and left investors free to buy other assets like stocks and corporate debt, which in theory helped lower the cost of credit across the economy.

The BoE now owns more than half of the non-inflation-linked standard gilts in existence. When the government pushed through debt issuance to cover the costs of the COVID-19 pandemic, its holdings moved in lockstep, which some lawmakers say could compromise the BoE’s independence. read more

With consumer price inflation hitting a nearly 30-year high of 5.4% in December, BoE rate-setters are eager to show they are in control of monetary policy.

They see the unwinding of this stimulus, a process economists call quantitative adjustment (QT), as an opportunity to do so.

WHAT IS QT?

Quantitative tightening is the opposite of quantitative easing. Instead of expanding or maintaining the £875bn of bank reserves issued by the BoE to buy gilts, QT means reducing this number.

HOW IS IT GOING WITH QT?

The BoE has said it will start QT “passive” when interest rates rise to 0.5%. This means that the BoE will not actively sell its gilts to investors, but will hold onto them until they mature.

In the past, the BoE used proceeds from maturing bonds to buy replacements, keeping its asset purchases level. Under passive QT, you would stop reinvesting and instead remove reserves, the same way they were created for QE.

This process could start in March, when the 2022 4% gilt, of which the BoE owns £25bn, expires.

“Initially, it will simply amount to a large, predictable, recurring buyer who won’t show up to buy gilts,” said ING economists Antoine Bouvet and James Smith.

A purely passive approach to QT would see gilt holdings fall to around £435bn in 2031, similar to their pre-pandemic level, according to Reuters calculations.

Bank of England and quantitative easing

WHAT ABOUT ACTIVE QT?

If all goes well, the BoE could decide that it can start selling small portions of its gilt holdings to private sector investors on a regular basis.

Last August, the BoE said it would start selling gilts “only once the bank rate has risen to at least 1% and depending on the economic circumstances at the time.”

“We expect the BoE to also start active selling in November at an initial pace of £5bn. QT will replace some bank rate hikes in our view,” said Robert Wood, economist at Bank of America.

ARE OTHER CENTRAL BANKS DOING QT?

In 2017, the US Federal Reserve began allowing its holdings of US Treasuries to mature without being fully reinvested, but the COVID-19 pandemic prompted a renewed expansion of QE.

Minutes from the Fed’s December meeting showed that officials had again discussed reducing the US central bank’s overall asset holdings, as well as raising interest rates earlier than expected to combat the inflation.

HOW MANY GILTS WILL THE BOE SELL IN TOTAL?

The BoE has given little indication of how much it wants to reduce its gilt holdings, but has said it expects its total balance sheet, which includes gilts, to be “substantially higher” than it was before the 2008 financial crisis and somewhat below its level in 2021.

WHAT ARE THE RISKS?

With no central bank attempting QT for an extended period, the BoE is likely to start cautiously to see how the gilt market, other asset prices, and the economy react.

With the precise effects of QE still being debated by economists after more than a decade, opinion varies on the possible consequences of the policy reversal.

“The consensus view is that QT will mean higher yields and a steeper curve, amid concerns about who will step in to buy all the gilts. We disagree,” economists and strategists at HSBC said.

“Some short-term volatility is possible as valuations adjust to any announcement. But as long as QT is clearly communicated and predictable, we see little to no direct trade-off between balance sheet and rate hikes.”

There are some potential tail risks, economists say.

A large and sustained decline in gilt prices would reduce the value of the remaining gilts held by the BoE and potentially burden the central bank with heavy paper losses, which in an extreme scenario could require the taxpayer to step in and recapitalize the bank. British center. .

($1 = 0.7421 pounds)

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Information from Andy Bruce; Edited by David Milliken and Catherine Evans

Our standards: the Thomson Reuters Trust Principles.


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George Holan

George Holan is chief editor at Plainsmen Post and has articles published in many notable publications in the last decade.

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