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--BOE Expanding, Not Extending, Term Funding Scheme Helps Treasury Hit Debt Goal
By David Robinson
LONDON (MNI) - The upcoming UK Budget will highlight the intermingling of
fiscal and monetary policy and that while the latter will help the Treasury
achieve its fiscal goals it also creates presentational problems for itself and
the Bank of England, Market News has been told.
The BOE Monetary Policy Committee's decisions not to it extend its Term
Funding Scheme (TFS), its low cost funding scheme for banks, and to maintain its
guidance on quantitative easing unwind, support the Treasury aims. With the
Treasury underwriting both the TFS and the Bank's asset purchases, the distance
between the two institutions can often appear blurred.
There has been strong demand for the four year TFS loans since the scheme
was launched in August 2016 as part of the MPC's stimulus package in the wake of
the UK's vote to leave the European Union. In August this year, the MPC voted to
close the TFS at end February 2018, predicting that drawdowns by that date would
exceed stg100 billion, with the Treasury sanctioning a stg15 billion top-up of
One of Chancellor of the Exchequer Phillip Hammond's (current) fiscal
targets is for public sector net debt as a percentage of GDP to be falling in
2020-21, which just happens to be when the early TFS loans are scheduled to be
The TFS has no net effect on the balance sheet as greater assets, the loans
to UK businesses via the banks, offset by greater liabilities, the BOE deposits.
"But there is a significant presentational impact because the loan
receivables are not included in public sector net debt, while the additional
Bank of England deposits are," Ross Campbell, a director at the Institute of
Chartered Accountants of England and Wales and a former Treasury official told
The TFS has driven up reported public sector net debt and "similarly,
public sector net debt will fall in four years' time when the TFS is repaid,
even though the net impact will be minimal," Campbell said.
"This is a presentation effect only but ... it does conveniently mean that
the Chancellor has a much better chance of achieving his 2020 target of a
falling debt to GDP ratio than might be the case without this effect," Campbell
The amounts involved are substantial. The latest BOE data showed that as of
Nov 8, TFS drawdowns amounted to stg90.119 billion and these will be run down to
zero over the 2020-21 and 2021-22 fiscal year.
The UK's official economic forecaster, the Office for Budget
Responsibility, estimated back in March that public sector net debt would fall
by 3.9 per cent of GDP in 2020-21 with the repayment of TFS loans accounting for
2.2 percentage points to this decline. It will update this estimate Wednesday.
The MPC's vast holdings of gilts through its Asset Purchase Facility has a
potentially even greater impact on the public finances than the TFS.
At heart, from a Treasury perspective, QE has involved swapping fixed
interest payments on gilts for what has been a very low variable rate, Bank
Rate. The decision by the MPC in November to hike Bank Rate by 25 basis points,
therefor, pushes up on debt costs.
The OBR's July Fiscal Risks Report contained a ready reckoner showing that
a one percentage point rise in short rates would add stg5.5 billion to debt
interest payments each year, so pro rata this month's 25 basis point Bank Rate
would add around stg1.4 billion.
Campbell, along with his colleague Martin Wheatcroft, said that while that
stg1.4 billion figure was a reasonable estimate it was not the whole story. It
showed the immediate short-term cost caused by the higher interest on Bank of
England deposits net of liquid cash resources -- around stg400 billion.
The increase in Bank Rate should also feed through into higher gilt rates
and the OBR has to make assumptions for this.
Given the government is issuing around stg120 billion a year in new debt, a
0.25% increase in gilt rates should (in theory) result in higher interest
payments of another stg0.1bn in the first year, stg0.4bn in year 2 and stg0.7bn
in year 3, they reckoned.
However, while the Bank Rate hike adds to interest payments the MPC has
flattered the public finances by not revisiting its November 2015 guidance to
commence QE unwind only when Bank Rate reaches 2.0%.
Bank Rate never gets to 2% on the 5 year market rate curve used in the
fiscal forecasts so the OBR will not have to factor in a reversal of the
fixed/floating QE swap in Wednesday's projections.
The Treasury has also benefited from over stg70 billion of cash flow being
transferred to it from coupon payments to the APF, which would reverse if the
BOE started selling the gilt holdings back to the private sector.
Newly appointed BOE Deputy Governor David Ramsden, formerly a top Treasury
official, insisted in his recent evidence to the Treasury Select Committee that
he and his former colleagues had not influenced the BOE's QE guidance.
"You would be very worried if I told you that I had contributed or had been
part of their guidance in 2015, because that would imply that the Treasury had a
role. I should stress I had absolutely no part in that," Ramsden told lawmakers.
Nevertheless, Wednesday's Budget will again demonstrate how interconnected
the UK's current fiscal and monetary sides are.
"There is an interaction between monetary policy and fiscal policy, so
although it is right to say that they are decided independently of each other,
it is not right to say that they are not influenced by each other. QE has had a
big impact on the public finances even if that was not the primary intention of
the MPC," Campbell said.
--MNI London Bureau; tel: +44 203-586-2223; email: email@example.com