Gilts saw their biggest one-day jump in memory after the Bank of England signalled it was embarking on a policy of money creation for the first time.
The Bank cut interest rates by half a percentage point and committed to spending £150bn of newly created central bank money on corporate and government bonds. The news sent shockwaves through Britain’s capital markets.
Although most economists had expected the rate cut, which leaves borrowing costs at an effective zero of 0.5pc, the scale and speed of the plan to pump extra cash into the economy took traders by surprise. The Bank plans to spend £50bn of the money it creates on corporate debt and the remaining sum on government bonds.
The sheer scale of the operation is illustrated by the fact that the entire corporate bond and commercial paper market in the UK is worth only £57.5bn, while the amount of gilt-edged government debt eligible for the Bank’s auctions totals £250bn.
– The Bank’s £200bn gamble (Independent):
“The Bank of England will this week announce its intention to flood the economy with ‘helicopter money’, its latest attempt to tackle the recession. Won’t quantitative easing cause inflation? Yes – and that is the general idea. Warren Buffett, the world’s most successful investor, has warned of “an onslaught of inflation” as a result of current policies.”
Destroying the value of your money through inflation is the general idea?(!!!)
Quantitative easing = Increasing the money supply (by creating money out of thin air) = Inflation
Inflation is a hidden tax:
“By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose.”
– John Maynard Keynes
Quantitative easing = The Zimbabwe school of economics (Stealing)
The Bank initially intends to spend £75bn on the operation, with the remaining amount likely to be committed as and when the Monetary Policy Committee judges necessary.
As the news sank in, Bank’s Governor Mervyn King conceded that further interest rate cuts were “very unlikely”.
With investors piling into gilts in anticipation of the auctions, the first of which is next Wednesday, gilt prices jumped by the biggest amount for at least 17 years, with some declaring it the most dramatic day in UK government debt in history. A rise in gilt prices pushes yields lower.
“For gilt yields to move by 30 basis points in a month is a big move,” said Philip Shaw, of Investec. “For it to move that much in a day must be pretty much unprecedented.”
The 10-year benchmark gilt yield dropped by 32 basis points to 3.32pc.
John Wraith, head of sterling rate strategy at RBC Capital Markets, said the fall was “massive but not surprising” given the aggressive nature of the Bank’s plans. The Bank will buy up various amounts of debt in twice-weekly auctions over the coming months. The first aims to spend about £2bn on gilts.
The decision means the UK is now officially engaged with quantitative easing, where the central bank attempts directly to influence the amount of money flowing through the economy by printing it – albeit electronically.
The Bank is embarking on this policy to stop the economy – already in the deepest recession since the 1980s – from tipping into depression. Despite recapitalisation of the banking system, unemployment is rising and consumer confidence collapsing as the crisis spreads from into the broader economy.
The Bank’s action is a more aggressive stance than the one adopted by the US Federal Reserve. The initial £75bn sum represents about 5.4pc of gross domestic product in Britain, whereas the Fed has pumped around $670bn (£474bn) into the system, or 4.7pc of GDP.
By Edmund Conway and Angela Monaghan
Last Updated: 1:27PM GMT 06 Mar 2009