It’s official: the Bank of England takes the cake for becoming the first bank to capitulate under the pressure of a severe oncoming economic downturn and the government’s raging incompetence on anything fiscal policy.
The pound was sent into free-fall after UK chancellor Kwasi Kwarteng unveiled new fiscal policies of widespread tax cuts and unprecedented government borrowing to help boost the economy, one day after the Bank of England raised interest rates by 75 basis points to cool record-high inflation. Given the Sterling’s sharp upheaval, markets braced for an emergency rate hike on Monday, but were instead met with a wait-and-see-until-November-3 response from policy makers.
However, it soon became evident that things took a turn for the worse when Bank of England’s Andrew Hauser on Wednesday cancelled a speech on balance sheet reduction scheduled for September 29. Instead, the central bank put out a news release announcing a restart of quantitative easing, consisting of a “temporary and targeted” bond buying scheme due to a crisis in government debt markets, warning of a “material risk to UK financial stability” should the bond turmoil continue. In other words, quantitative tightening is over before it began, and QE will be as “temporary” and the “temporary” inflation policy makers told us not to worry about.
So, what happened between the pound’s sharp plummet on Monday to the Bank of England’s sudden pivot on Wednesday? According to the Financial Times, the stick that broke the camel’s back was when the weakened pound dragged down the price of government bonds, prompting investment managers to urgently demand additional cash from thousands of pension funds to meet margin calls. The central bank said the QE action will be “carried out on whatever scale is necessary to effect this outcome,” adding that the Treasury would underwrite any ensuing losses.
However, despite the bank’s assurances that QE will be temporary, we are well-seasoned in MMT to know that it will be anything but. Just when the BoE thinks its time to tighten policy again, bond yields will surge back to previous levels, making UK’s central bank the first to exhaust monetary policy tools and admit defeat, leaving no other option but to raise inflation targets from 2% to 3%, 4%, etc. Meanwhile, the UK Treasury praised the BoE for identifying “a risk from recent dysfunction in gilt markets,” and blamed the “significant volatility” on “global financial markets” instead of chancellor Kwarteng’s poorly thought-out tax cuts and a supply of government debt that far exceeds demand.
Kwarteng’s incompetency even caught the attention of Moody’s and the IMF, with the latter warning that such unfunded tax cuts need to reevaluated otherwise the BoE risks running out of monetary tools to cool surging inflation. “Given elevated inflation pressures in many countries, including the UK, we do not recommend large and untargeted fiscal packages at this juncture, as it is important that fiscal policy does not work at cross purposes to monetary policy,” said an IMF spokesperson. Furthermore, the nature of the UK measures will likely increase inequality.”
Moody’s echoed similar sentiment, foreshadowing that Kwarteng’s controversial action would slash economic growth by pushing borrowing costs higher. According to the ratings agency, such extensive unfunded tax cuts are “credit negative,” heightening the likelihood of Britain’s rating getting downgraded.
Information for this briefing was found via the sources mentioned. The author has no securities or affiliations related to this organization. Not a recommendation to buy or sell. Always do additional research and consult a professional before purchasing a security. The author holds no licenses.
