“Gradual” and “predictable” are the watchwords at the Bank of England. But for Rachel Reeves, preparing for a tough autumn budget, a more activist approach from Threadneedle Street could have helped.
The central bank had two pieces of bad news for the chancellor on Thursday: borrowing costs would be held unchanged at the current elevated level, while the Bank would proceed with a plan to sell billions of pounds in UK government bonds.
Both decisions had been widely expected in financial markets. But an alternative outcome was not outside the realms of possibility and could have helped bail out the Treasury a little before the autumn budget.
With inflation running at 3.8%, almost twice the Bank’s target, the majority of the Bank’s rate-setting monetary policy committee voted to keep interest rates unchanged at 4%. Households are coming under pressure from the soaring price of food, while business leaders have said the chancellor’s £25bn increase in employer national insurance contributions (NICs) is being passed on to consumers in the form of higher prices.
However, two members – the external economists Swati Dhingra and Alan Taylor – shared a concern that Britain’s economy was in weak shape and required rates to be cut by a quarter-point to 3.75%. Doing so would have been an indictment of the strength of the economy, but could have helped Reeves to argue that Labour was not standing in the way of lower mortgage costs for hard-pressed households.
The second decision is more complicated to explain. For the past year the Bank has been disposing of £100bn of UK government bonds in a programme known as quantitative tightening (QT), through a process of selling bonds on its books and not replacing maturing debt.
A decision was required on Thursday about what to do in the year ahead. Given increasingly febrile conditions in global financial markets, some leading economists had called for Threadneedle Street to scale back its plan drastically.
Britain’s long-term borrowing costs have hit the highest level in 27 years. Much of the rise is driven by global factors, alongside investor worries over the UK economy and the public finances. But some economists believe the Bank’s QT programme has played a contributing role.
On the face of it, the Bank’s decision to scale back its QT programme to £70bn may sound helpful for the chancellor, as slowing the pace would help to soothe fears over a flood of UK bonds being sold into a jittery market.
However, to hit its £70bn runoff target, the Bank will actually need to sell more government bonds over the year ahead than it did in the past year, almost doubling its target from £13bn to £21bn.
This is because fewer bonds are set to mature over the coming year, meaning that hitting the £70bn will require more active bond sales.
City investors had widely expect the Bank to scale back its QT programme to about £70bn. But several leading economists, including former MPC members, would have preferred a complete halt to active bond sales.
Doing so could have helped Reeves, saving the Treasury more than £10bn a year by IPPR thinktank estimates.
A bigger move from the Bank would, however, have sent a signal that it was concerned about conditions in markets and Britain’s elevated long-term borrowing costs.
