MNI INSIGHT: BOE’s ‘Outdated’ QE Unwind Strategy Set To Change

The Bank of England looks set to ditch its outdated strategy for exiting quantitative easing but is keen to ensure that investors understand that its review of alternative strategies for unwinding bond purchases is open ended and does not signal any preset timetable for tightening.

The BOE's current strategy is for QE only to be unwound when Bank Rate hits 1.5%, but, with the market not pricing that in during the next 50 years, this seems ripe for replacement. Hence the review into exit strategy announced at the past policy meeting.

With the ghost of 2013's taper tantrum still haunting central bankers, the BOE does not want markets to be taken by surprise if Threadneedle Street does eventually set out a framework for earlier asset sales. This is not in sight for the moment, and Governor Andrew Bailey stressed that the tightening review does not signal any change from easy policy. Officials, though, want to be certain that, when they do make that change, investors are not surprised.

Making the review as transparent as possible should help desensitise investors by the time policymakers do begin to float a QE exit, officials hope.

A brief statement in the February Monetary Policy Committee meeting minutes noted that Bank staff had been instructed to "reconsider the previous guidance" on tightening policy. It is still not clear when the review will be completed.

FREE UP SPACE

Bailey and Deputy Governor Ben Broadbent told legislators Wednesday that they had open minds as to the outcome of the review. However, echoing a view espoused previously by Bailey, Broadbent said one reason why an early QE unwind might be desirable would be to restore policy space in case further easing is required.

Factors the Bank is considering include whether it should adopt a different approach to reversing QE done at speed for market-calming purposes, as was the case in March 2020 during the initial Covid panic, to that which it takes when it unwinds purchases which have been more carefully calibrated in order to add stimulus. There are also questions over whether 'natural run-off' of asset purchases, by allowing gilts to mature, would be preferable to sales, and whether, as MPC member Gertjan Vlieghe has maintained, the effects of QE unwind are likely be negligible in liquid markets if there is careful policy communication.

DECOUPLING

The BOE could move to disassociate any QE unwind from signals of significant policy tightening. This would be in line with Vlieghe's view that bond purchases have powerful effects tackling liquidity in stressed markets but work primarily through influencing policy expectations in liquid ones. With clear policy communication, "the unwind of QE should have no additional effect on expectations," he says.

Views over the importance of stock or flow of QE will be key to the outcome. At present, policymakers still view stock rather than flow of asset purchases as paramount, although their stance has been modified to recognise the significance of flow in illiquid markets such as those seen last March.

If such an emergency response is required again, unwinding QE beforehand would allow the BOE to buy bonds in greater volumes more quickly, particularly given self-imposed restrictions on the Bank's holdings of individual gilts.