MNI INSIGHT: BOE Emphasis On Tightening Path Predictability

The Bank of England Monetary Policy Committee's review of policy tightening was designed to avoid sparking market volatility by setting out a clear and predictable path for quantitative tightening, MNI understands, and the subdued market reaction strongly suggests that it has succeeded.

Bank staff and policymakers placed great weight on the lessons of the U.S. Federal Reserve, from its misstep with the taper tantrum in 2013 to its successful passage of balance sheet shrinkage starting in 2017, MNI has learnt. The key lesson drawn was that tightening needed to be gradual and predictable, rather than leaving market participants guessing the next step up the ladder.

The new approach, of not replacing maturing gilts after Bank Rate reaches 0.5% and only considering active sales once it hits 1.0%, dovetails neatly with current market pricing, which suggests the 0.5% threshold could be hit in the second half of 2022 while the trigger for active sales remains out of sight.

Speculation about how far and fast the Bank will go on future sales and what criteria it will use to help make that decision has been kicked down the road – with the review containing no answers to some questions on tightening raised internally and externally.

COORDINATED SELLING

One question is whether any eventual sale of gilts should be handled by the Debt Management Office or, if not, how the Bank and the DMO would co-ordinate if both are selling at the same time. Other questions are over what policy multipliers are likely to be on gilt sales, and how far and fast the Bank should go with them and where the likely end point of balance sheet shrinkage is.

Yet another is how low Bank economists now think the benchmark rate can now go, or where the effective lower bound is, as this was cited as a factor justifying lowering the threshold for quantitative tightening from 1.5% to 0.5%.

The BOE's current public line on how low Bank Rate can go is the one sketched out by Governor Andrew Bailey -- that it is not useful "to think about the lower bound as a single number" as it varies according to conditions. Under former Governor Mark Carney, policymakers took the relatively precise line, that ELB was thought to be just positive, rather than highlighting the impossibility of precision.

MPC DIVISION

There is plenty of evidence to suggest that the MPC is, and will continue to be, divided over the benefits of negative rates and thus over the ELB and that may have played a role in the lack of guidance.

MPC member Silvana Tenreyro, who has stressed that the evidence from continental Europe shows negative rates have worked, previously said she thought the effective lower bound was at least -0.75%. Against that, incoming Committee member Catherine Mann has been deeply sceptical that negative rates work at all and Deputy Governor Ben Broadbent has questioned how far they would be passed on.

The published review, which reflected only a fraction of the detailed work carried out by Bank staff on QT, was not designed to provide an enduring answer to all the questions surrounding it and it has a limited shelf life.

Another review is likely in a couple of years and future members are never bound by the thinking of their predecessors. Instead, the aim of the published parts of the current review has been all about setting out a predictable approach to tightening in the near to medium term and not spooking the markets.