US Edition
The Bank of England’s decision to sell off government bonds is costing taxpayers £15bn a year and squeezing Jeremy Hunt’s room to cut taxes, a top investment bank has warned.
Deutsche Bank said Threadneedle Street’s decision to reduce the size of its balance sheet by actively selling gilts bought during the pandemic, rather than letting them mature, meant taxpayers faced much heavier losses in the short term.
Based on the current path of interest rates, taxpayers face £15bn-a year in extra losses compared to a scenario where the bonds just matured. The Treasury is on the hook to make the Bank whole on any losses from the bond-buying programme, known as quantitative easing (QE).
Rapidly rising interest rates have pushed the programme into the red. However, Deutsche Bank believes the problem is being made worse by the Bank’s decision to sell bonds at a time when prices are potentially at their lowest, given high interest rates.
The Bank of England announced plans this Autumn to shrink its balance sheet by a further £100bn over the next year, including £50bn of active sales of gilts, under a programme known as quantitative tightening (QT).
The Treasury has transferred £29.1bn to the Bank to cover losses from QT over the past year alone.
Sanjay Raja, Deutsche Bank’s chief economist, said: “The additional cost of active QT adds to the Chancellor’s debt burden, taking away some space for spending or tax cuts in the near-term particularly given the narrow headroom he has in meeting his debt rule.”
Mr Raja highlighted that active sales – where the Bank sells bonds rather than letting them mature – were crystallising higher losses for the Treasury.
Deutsche Bank said that £11.7bn of the past year’s losses have come from active gilt sales, including £7.5bn in long dated debt, where prices have fallen sharply.
He added: “The cost of QT is not non-negligible. Higher interest rates have resulted in bigger losses for the Bank. If QT continues indefinitely, overall losses will likely more than offset the gains transferred to the Treasury over the last decade or so.”
Internal estimates suggest the taxpayer will have to pay as much as £170bn towards QE over the next decade.
Sir John Redwood, who formerly headed Margaret Thatcher’s policy unit, urged the Bank to stop actively selling bonds.
He said: “They’re making a double mistake having given us inflation with too much quantitative easing (QE). Now they’re giving us too much austerity by doing too much QT, forcing interest rates too high and suffering heavier losses.
“The Treasury, which is having to pay all these losses that we need not take, are then in no mood for tax cuts because they’re having sent so much money to the Bank of England.”
With the interest rate at 5.25pc, the amount the Bank pays to commercial lenders on reserves held at the central bank far outstrips returns on its stockpile of gilts.
The reverse was true when interest rates were at record lows, which saw a peak of £123.8bn in profits transferred to the Treasury between 2009 and 2022.
Some economists have suggested that the Bank should scrap the interest paid on deposits from commercial lenders in a move that could save taxpayers billions of pounds.
However, Lord Macpherson, a former permanent secretary to the Treasury, said this could be seen as a tax on banks.
He added: “If the Government started seeking to interfere with monetary policy, that would undermine the Bank’s independence and would then raise questions in the market about whether the Bank could be trusted, and so you might end up having to pay a higher premium on debt.
“My guess is there will be increasing political pressure to do something about this, either putting pressure on the Bank of England, which I think would be undesirable, or potentially taxing banks more, who have been the beneficiaries of this policy.”
It is understood that Treasury officials have been examining the mechanics of QT, although decisions about the size and composition of any bond sales are conducted by the Bank, which is operationally independent .