The Bank of England is under growing pressure to pause a controversial debt-selling programme that is set to cost the taxpayer over £100billion.
It comes as the Bank’s Monetary Policy Committee is expected to keep interest rates on hold this week despite soaring energy prices caused by the US war on Iran, which is fuelling inflation.
The MPC will also decide on the pace of bond sales that are crystallising huge losses for the Bank – and taxpayers – as government borrowing costs around the world soar.
The Treasury has to cover these losses, adding to the Government’s near-£3trillion debt burden. It also means an extra headache for Chancellor John Healey as he tries to balance the books in next month’s Budget.
After the 2008 financial crisis and during the pandemic the Bank bought £895billion of bonds – Government debt or IOUs – to help keep the economy afloat.
It bought this debt from bond investors at very high prices when interest rates were ultra-low. Bond prices go up when rates go down, and vice versa.
The Bank of England’s quantitative tightening involves selling bonds that have fallen in value back into the market
At first the policy of so-called quantitative easing proved highly profitable for taxpayers with £124billion transferred to the Treasury.
That all changed in 2022 when interest rates rose sharply after Russia’s invasion of Ukraine to curb double-digit inflation.
Since then the Bank has been aggressively selling gilts into a falling market, reducing its debt pile to £489billion but at a mounting cost to the taxpayer as interest rates stay high for longer than expected – and may move higher still.
The Office for Budget Responsibility, the official forecaster, projects further losses under this quantitative tightening plan of £94billion in the next four years, including £22billion of crystallised losses on active gilt sales, where bonds are dumped before they mature.
If the Bank, which is independent of the Government, slows down the pace of debt sales – currently running at £70billion a year – or halts them altogether, these losses will be lower or stop entirely.
The UK has the only major central bank actively selling government debt.
Bank Governor Andrew Bailey admitted to MPs last week that its ‘more transparent’ system of transferring losses to the Treasury was ‘quite painful’.
But he insists that reducing the Bank’s balance sheet by offloading its debt pile is necessary so that the Bank could intervene again if the economy suffered future shocks.
With yields on bonds at near three decade highs, investors will not pay full price for previously issued bonds on low rates
Others disagree. ‘I think the Bank should stop active QT and allow the balance sheet to shrink naturally through gilts maturing,’ said Gerard Lyons, chief economist at wealth manager NetWealth.
‘The Bank of England is quite of the tune with the rest of the world,’ added William Ellis, senior economist at the Institute for Public Policy think-tank.
‘The pace (of bond sales) is much higher than the European Central Bank and Federal Reserve, which is now doing the complete opposite’ and buying back US debt, Ellis noted. ‘A pause makes sense,’ he added.
Economists expect the Bank to slow the pace of bond sales from £70billion to £50billion a year and maintain active gilt sales.
Mike Denham, former chair of the TaxPayers’ Alliance said the policy ‘has been a terrible mistake’.
‘The Bank has painted itself into a corner,’ he added.
Bailey also opposes any hike in bank taxes to raise money for more spending on health, welfare and defence.
Lenders are making an extra £20billion a year from interest payments on reserves held risk-free at the Bank of England as a result of higher-for-longer rates
The amount of interest lenders are paid on these reserves could be curbed.
‘A tiered system is a reasonable compromise,’ said Netwealth’s Lyons. ‘(It) would save the taxpayer money while still addressing the Bank’s concern about the transmission of monetary policy.’
But Bailey is opposed to any such changes, telling MPs last week that the Bank’s base rate, currently at 3.75 per cent, was ‘the way we implement monetary policy – the anchor point in our system’.
He also warned that banks might seek to protect their margins charging customers higher borrowing costs and lower saving rates.