ENGLAND — The Bank of England will start temporarily buying long-dated bonds instead of launching its planned gilt auction next week in order to calm the market upheaval caused by the new government’s so-called mini-budget.
The new fiscal policy announcements caused investors to flee the British fixed-income markets, and as a result, rates on British government bonds, often known as “gilts,” were on course to see their highest monthly increase since at least 1957. Large elements of the proposed tax cuts that are unfunded have drawn criticism from throughout the world, especially from the IMF.
The recent “substantial repricing” of British and international assets, which had a particularly detrimental effect on long-dated U.K. government debt, was something the central bank said it was keeping an eye on in a statement on Wednesday.
Bank of England intervenes
“Market dysfunction would seriously jeopardize the stability of the UK financial system if it persisted or worsened. The Bank of England issued a warning that this might have the unintended effect of tightening financial conditions and reducing the amount of credit available to the real economy.
In keeping with its mandate of financial stability, the Bank of England is prepared to restore market functionality and reduce any risks of lending conditions for UK citizens and businesses.
In an effort to “create orderly market conditions,” the bank stated on Wednesday that it will begin making short-term purchases of long-term UK government bonds. The bank added that these purchases will be undertaken “on whatever scale is necessary” to calm the markets.
The bank’s Financial Policy Committee acknowledged that the failure in the gilt market posed a serious threat to the country’s financial stability on Wednesday and agreed to take immediate measures.
The first gilt sales, which were initially planned for Monday, will now happen on October 31 in order to meet the Monetary Policy Committee’s goal of an annual reduction of its holdings of gilts of £80 billion ($85 billion), according to the bank.
A spokesman for the department said that the U.K. Treasury has “fully indemnified” the operation and that Finance Minister Kwasi Kwarteng is “committed to the independence of the Bank of England.”
“The Government will continue to work closely with the Bank in support of its financial stability and inflation objectives,” the statement read.
According to the bank, a market notice outlining the mechanics of how the project would function will be released “shortly.”
Following the news, there was a sharp decline in the yields on 30-year and 10-year U.K. gilts. Sterling originally dropped by 1.5% against the dollar before gaining a little momentum and trading at around $1.066 around midday in London.
Being “caught on crossfire”
According to Antoine Bouvet, senior rates strategist at ING, if the volatility in the gilt market continues, the Bank of England may need to extend the bond purchases beyond the first two-week timeframe. He also said that another rise in interest rates wasn’t completely out of the question.
Following the revelation, Bouvet told CNBC that for the time being, the bank’s first priority had to be how the gilt market was operating. The worst situation, according to him, would be if the sovereign lost access to the market and was unable to get financing.
It wasn’t quite that way, but it was obvious that the Bank of England and the Treasury were at war, and that this dispute was having an impact on the gilt market.
Therefore, the Treasury is implementing inflationary fiscal policies in an effort to shield the economy from the recession in a situation where there is a recession and the BOE is rising interest rates.
The Treasury’s statement of support was vital, he continued, and the government would be keen to avoid creating the impression that the economy needed to be saved because the gilt market was in “such awful health.”
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