You can always count on bankers to find new ways of bending accounting rules but in this case the Bank of England is now able to supply the UK Government with £35bn via the back door at the same time it has announced a halt to QE.
So now we know why the Bank of England’s Monetary Policy Committee called a halt to more Quantitative Easing this week – it’s because the Chancellor and the Governor of the Bank of England have concocted a backdoor way of doing the same thing.
The latest little (actually quite big at a tidy £35bn) money printing wheeze comes about as close to outright monetising of government spending as it is possible for the Bank of England to go without simply creating the money and handing it by the lorry load to the Treasury, a la Weimar.
What the Treasury has decided to do is take the accumulated interest payments on the stock of government debt the Bank of England has bought under quantitative easing, and credit it to the Government’s books rather than the Bank of England’s. The total is £35bn, of which the government intends to take £11bn this financial year and £24bn next.
This obviously helps the deficit in these two years quite a lot, creating space, should the Chancellor wish to take it, to ease back a little on the fiscal squeeze. For instance, he might choose to take the shadow Chancellor’s advice and further delay a scheduled increase in fuel duties. It also makes it easier for Mr Osborne to meet his fiscal mandate of eliminating the structural deficit within five years. Even the supplementary target of falling debt as a percentage of GDP by the end of the parliament – the one which City forecasters now widely believe Osborne will miss without further austerity – is marginally benefited by the latest piece of sleight of hand. It’s as if Osborne has died and been reborn as Gordon Brown, who famously manipulated his own fiscal rules to destruction.
The Government excuses its actions by saying that it is only bringing itself into line with practice in Japan and the US, the other major economies to be practicing substantial QE right now. It might also be argued that to the extent the European Central Bank indulges in bond purchases, it practices something quite similar too.
In any case, you might reasonably think that it doesn’t really matter how the government accounts for the interest on the Bank’s stock of gilts. Since the Bank of England is 100pc owned by the Treasury, the government has in essence only been paying interest to itself, so why not just stop the charade and save the money?
Wrong, wrong, wrong. The justification for keeping the interest is that it creates a buffer to fund expected losses on the gilts when the Bank of England comes to unwind its quantitative easing programme. These losses are now going to have to be met by the government directly at some stage in the future. Alternatively, the government could simply ignore them or write-them off. The Government is transferring the losses from today until tomorrow. The thin line which separates monetary from fiscal policy is being crossed in a way which substantially undermines the Bank of England’s claim to independence.