In an effort to prevent the collapse of the market due to falling prices for government bonds, the Bank of England once again depressed the panic button today.
A “fire sale” of the government bonds would pose a “material risk to UK financial stability,” the central bank said in its announcement that it would expand its purchases of gilts.
The need for immediate action arose when 30-year gilt rates began to inch back near the 5% mark, which at the end of last month threatened to bankrupt pension funds.
A complex strategy adopted by numerous funds to protect themselves against inflation during the upheaval that followed Kwasi Kwarteng’s mini-Budget backfired when gilt prices fell, increasing the accompanying interest rates.
Prices have been further depressed as a result of their being obliged to sell other gilts in order to satisfy margin requests for cash from investment managers.
The Bank earlier diffused the situation by announcing it would support the market by buying up to £65 billion of long-dated government bonds. The Bank must now purchase index-linked gilts as well due to the most recent market collapse.
The Bank said in a statement that “dysfunction in this market, and the likelihood of self-reinforcing ‘fire sale’ dynamics pose a serious risk to UK financial stability.”
The move did not provide much of a lift for the pound, which is now drifting lower after rising from its record low of $1.03.
It’s concerning that the latest bloodshed came after yesterday’s apparent concerted assurance campaign. The date of Mr. Kwarteng’s development plan was advanced to Halloween, along with critical projections from the independent OBR, and a Treasury veteran was named as one of his new senior civil workers.
Additionally, the Bank said that it will quadruple its daily quota for buying government bonds.
Minutes after the Bank of England announcement, deputy prime minister Therese Coffey made an appearance on television and claimed to be unaware of the intervention.
Additionally, she emphasized that the UK’s public finances are in “excellent health.”
On yet another day when the UK economy and markets were battered:
Liz Truss is hosting a Cabinet meeting with predictions ministers would make plain she must reverse her plans to boost benefits by less than inflation; the Institute for Fiscal Studies warned of £60 billion in expenditure cutbacks to keep the UK’s finances under control;
As long-term illness hit historic highs, the employment rate fell substantially. Wages are growing at a pace of 6% but are still far behind inflation, adding to the hardship on families.
Ms. Coffey refuted the claim that Chancellor Kwasi Kwarteng moved ahead with his medium-term budget plan as a result of market jitters.
“I believe he thought we’re in a good situation,” she said to Sky News, “and we’ll continue to debate this throughout Government and with Parliament over the next several weeks.”
The Bank of England cautioned that the continued decline in the gilts market creates a “serious risk to UK financial stability,” but Ms. Coffey was unaware of this. The bank took further measures to support its emergency bond-buying strategy.
According to a research released today, Mr. Kwarteng would need to cut public expenditure by £60 billion in order to reduce government debts.
Yesterday, the Chancellor indicated he would make a big economic statement as soon as possible to demonstrate his commitment to reducing the Government’s enormous debt.
Now scheduled to be released on October 31, the so-called “medium-term fiscal plan” will do so only days before the Bank of England’s meeting on November 3 to debate a potential significant increase in interest rates.
But despite the Halloween Budget, borrowing prices from the government increased yesterday.
According to a research released today by the Institute for Fiscal Studies (IFS), in order to balance the budget, Mr. Kwarteng may need to decrease expenditure in most departments by 15%.
This report claims that savings of more than £60 billion would be necessary, and it challenges the government’s ability to implement expenditure restriction on this scale, claiming that doing so runs the danger of “pushing credulity to breaking point.”
According to the IFS analysis, raising benefits to match wages rather than inflation could generate £13 billion, while reducing investment expenditure could yield an additional $14 billion.
Although the budgets for the NHS and the military would be safeguarded, other government agencies would still be subject to significant cutbacks since “trimming the fat” won’t be enough to close the gap in the budget.
Paul Johnson, head of IFS, said that it was “just about doable” for Mr. Kwarteng to achieve debt reduction in five years. However, he cautioned that planning “unspecified tax cuts” for subsequent years would damage his reputation.
Mr. Kwarteng must work quickly to identify possible cutbacks since ministers are already having trouble persuading Conservative MPs that it is necessary to reduce the welfare budget.
‘It is evident to everyone that there are going to be some extremely harsh choices,’ a Whitehall insider said.
According to another, government agencies will probably be told to stick to their current spending plans for the time being, with greater cutbacks likely to be planned for just after the next election.
Mel Stride, the head of the Commons Treasury committee, applauded Mr. Kwarteng’s decision to present a Halloween Budget and noted that it may result in a reduced increase in interest rates, which would be “important to millions” of homeowners.
However, he issued a warning that this would only be the case if the strategy ‘lands well with the markets’ before the Bank makes its decision. When asked about the accuracy of Mr. Kwarteng’s financial projections, Mr. Stride said, “Well, we’re going to find out.”
According to the IFS assessment released today, the government will now borrow close to £200 billion this year, which is twice the £99 billion that was anticipated at the time of the last budget in March.
The economy is expected to expand by only 0.8% annually for the next five years, according to a research by investment bank Citi, significantly below the 2.5% rate of growth the Chancellor has said he wants to achieve.
The Treasury has said that if Mr. Kwarteng’s proposals are successful in boosting economic growth by 1% over their anticipated level, they will pay for themselves.
However, he now has to fight to convince the Office for Budget Responsibility that a number of supply-side changes in sectors like planning, energy, and immigration would greatly accelerate development.
Lord Macpherson, a former Treasury official, warned that the size of the fiscal problem would compel the chancellor to reconsider his tax-cutting proposals.
The crossbench peer warned: “The market reaction in the weeks ahead might be a whole lot worse than we have seen so far” unless the government can regain economic confidence.
Yesterday, Kwasi Kwarteng’s intention to choose an outsider as the head of the Treasury was thwarted by Liz Truss.
As part of his attempts to challenge the department’s “orthodox” thinking, the chancellor was prepared to appoint high-ranking civil servant Antonia Romeo as permanent secretary.
On his first day in office last month, Mr. Kwarteng fired the former leader Sir Tom Scholar in an effort to persuade the Treasury to adopt a more aggressive strategy for growth.
However, according to Whitehall sources, the PM disapproved of Mrs. Romeo’s appointment. James Bowler, a veteran of the civil service and “budget conservative,” was in place of that yesterday.
In an apparent effort to convince the financial markets of budgetary restraint, two more senior Treasury officials, Cat Little and Beth Russell, were named as Mr. Bowler’s assistants.
Yesterday, No. 10 reiterated that the selection of Mr. Bowler had been a “joint decision” between the Prime Minister and the Chancellor.