The Stalinist Bank of England

On BBC Radio 4 on Saturday 24th August, Simon Rose from Save Our Savers said this:
"You can actually see the real price of money in other places. Now they’ve decided that it should just be 0.5%, but if you look at the peer-to-peer market for instance, which matches off people who want to borrow against people who want to lend money, well there the rate’s sort of 5% roughly. That is people coming together saying “I’m going to lend some money, what will you pay me”, or “I need to borrow money, how much does it cost”. That is free market capitalism operating, not the sort of crony capitalism with the sort of Stalinist control of the price of money that we get from the Bank of England. People never seem to challenge the idea that the Bank of England should set the price of money, but I find it very bizarre that they do, particularly when we’re seeing the cost of their decisions." 
("How You Pay For The City", starting at 4min 20sec. I've transcribed it because BBC iplayer links are not available in all countries and are only up for a short time).  

I really can't let this pass. I don't think Rose has the slightest idea what he is talking about.......

The rest of this post can be read here.


Comments

  1. But you seem to be missing Simon Rose's point. The peer to peer rates are based on a simple financial assesment that does include risk. Conversely the BOE sets its rate for poltical reasons. Carney has made that clear when invoking employment rates. You say that poignant the BOE lending is risk free but in another political enviroment they would set it higher. So risk analysis is not the explanation.

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    1. Nope. Risk analysis is EXACTLY the explanation. The spread of peer-to-peer rates over the base rate is the risk premium for that type of lending.

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  2. Dinero - also the BoE is only "setting" short term rates, in fact overnight.

    They cannot control rates that most businesses and individuals actually borrow at. We saw this before when the BoE had low rates but SVR mortgages went up regardless. This is why the BoE is doing help2buy. They cannot control mortgage rates so they are instead underwriting some of the risk to boost asset prices.

    The BoE is currently running around in circles because the market is pricing in a rate rise. The market, IMHO, are doing this because US rates are going to rise and the UK will have to follow suit. The BoE thinks it's because people think the UK is in great health. I doubt that! We will soon see that the BoE dances to the US tune and cannot set the agenda.

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    1. The Bank of England is not doing Help to Buy. Her Majesty's Treasury is doing Help to Buy. Please don't confuse monetary and fiscal authorities.

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    2. Frances - thanks for replying - you are kidding, right? I just see the whole thing as one big cancerous blob!

      BoE is not independent from government and the government is doing help2buy. They are the same.

      All policy from both "entities" is directed at stoking credit, the primary mechanism for this is housing.

      I should perhaps have said "the establishment" or "the state" is doing help2buy.

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  3. On this topic it is important not to conflate two different rates.
    One is the rate charged on the issue of new BoE resserves . The other rate is the BoE target for the rate return on Guilts.

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    1. There is no meaningful difference between base rate and yields on short-term gilts. As reserves and short-term gilts (Treasury bills) are substitutes, any difference between the rates is arbitraged away.

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  4. Dinero - what is the target rate on the latter? Where is this documented and how often is this "recalibrated"?

    Aside: it's funny how the BoE are already reduced to issuing the derivative of fwd guidance by issuing upcoming guidance on forward guidance! I look forward to the cubic form.

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  5. The target rate is what is commomnly refered to as the Sterling interest rate. The rate on the lowest risk investment - Gilts. It is what the BBC document as the "interest rate". "Recalibrated" - often.

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    1. The yield on gilts depends on the tenor. It's not meaningful to talk about a "target rate" without saying what the tenor is. The yield on 10 year gilts is considerably higher than the yield on 6 month T-bills.The

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    2. This comment has been removed by the author.

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    3. My understanding was that TN is the only effect that the BoE can have and anything beyond this is set by the market. Happy to be corrected! Didn't even this dry up in 2008 as banks lost confidence in each others solvency?

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    4. Ben,

      Yes, you are correct. The BoE can really only directly influence short-term rates. Long-term rates reflect the expected path of future interest rates, which depend not only on BoE policy but on economic factors. Carney is trying to use forward guidance to depress longer-term rates, but the market isn't cooperating. Consequently the gilt yield curve is steepening as yields rise on the longer tenors.

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    5. Which all means that Carney can huff and puff but cannot fix the UK with a load of hot air, however he can further retard our nation by encouraging malinvestment in non-wealth generating rentier activities such as help2buy!

      Kaboooooom!

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    6. Carney has actually expressed some concern about the Help 2 Buy programme. See link in my reply to Tim Young further down this comments stream.

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  6. "Interest rates are set by the market. They really are."

    But the base rate basically determines other sort term market rates, doesn't it? When the BoE lowers the base rate, bank deposit rates go down, and when it raises the base rate, deposit rates go up. If the BoE decided tomorrow to raise the base rate to 10%, wouldn't all other short term rates also go up?

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    1. I really don't think that's correct. We have seen the base rate stay low as borrowing costs have risen.

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  7. For someone so aggressive towards Simon Rose, you make plenty of misconceptions and errors of your own Frances. I shall mention just your description of BoE market operations to make the point, and hope that you are suitably chastened. Of course, the present situation is abnormal, but for now there are no reserves requirements for sterling reserves, and so no "excess" reserves as you put it. But the normal term for BoE repos is one week not overnight, and contrary to what you write, there is a deposit facility: http://www.bankofengland.co.uk/markets/Documents/money/publications/redbookosf.pdf

    Overall, though, I think Rose is right to argue that the BoE is depressing sterling interest rates below where they would be in a free market for loanable funds. The acid test of this is inflation. As Wicksell explained, to keep money market interest rates below the "natural" rate, the central bank has to keep supplying extra base money, which is manifested in ongoing inflation. The case could be made that a wider measure of inflation is most relevant, but the BoE is mandated to target cpi, so let's go with that. Plainly, cpi is averaging well above its target, suggesting that BoE monetary policy is tending to hold short-term interest rates below the "natural" level.

    Nor is the division between fiscal policy and BoE policy as sharp as you suggest. The risk of Help to Buy may lie with HMT (as does the risk of even indisputably monetary operations, ultimately), but the government have assigned the thankless task of terminating it (though not for three years, thank you!) to the BoE, and of course the BoE could have put a (in my opinion, justified) spanner in the works by raising the capital requirement for such lending (on the grounds of the potential stability risk when the scheme stops).

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    1. I did not say the Bank of England had no deposit facility. I said it does not have a separate deposit rate. It pays bank rate (base rate) on deposits.

      I am well aware that the Bank of England does not currently have a reserve requirement. I am nonetheless correct in using the term "excess reserves".

      I really think you should withdraw your remarks in the first paragraph, since you have misread what I said.

      Regarding inflation. CPI is not "well above" its target. It is currently 2.8%, and the ONS notes that that is mainly due to "administered and regulated prices", which are those that are managed by Government regulators. This has nothing to do with monetary policy. Raising interest rates to counter inflation at this level is unjustified. I do not think Rose has any case at all.

      The BoE would have been unjustified in raising capital requirements for a scheme which actually reduces the risk of lending.

      I disagree about BoE vs HMT. The distinction between monetary and fiscal policy IS clear, but the responsibility for implementation is not always so clear.

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    2. You said "the UK does not have a separate deposit rate". It does; presently at zero by virtue of its normally fixed spread below Bank rate: http://www.bankofengland.co.uk/markets/Documents/sterlingoperations/summaryops130502.pdf

      Your use of the term "excess reserves" is different from the conventional usage in discussion of central bank market operations, where it means "in excess of the reserve requirement". This is an important detail, because it is this that prompts banks to use the deposit facility even when a higher interest rate is paid on (required) reserves.

      When you are in hole, Frances, stop digging!

      I find the BoE's present attitude to "administered" prices amusingly inconsistent. Had it not been for the highly political cancellation of the scheduled fuel duty increase in the budget, I am fairly sure that present cpi inflation would have risen above its acceptable range again. As I am sure that BoE staff understand, the whole concept is economically questionable anyway, since, for example, taxes are the price of government services. I dare say many of the "administered" prices will reflect the pass-through of domestically generated price pressures, such as house prices driving up staff costs for key workers like teachers, passed on through council tax etc.

      Other things equal, Help to Buy reduces the risk of mortgage lending now, with the aim being to generate more of it now. The trouble is that the mortgages last, say, 25 years, and the government loan / guarantee doesn't. It takes can kicking to a new level.

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    3. I'm not in any hole. It's incumbent on you to get things right if you are going to criticise. The Bank of England says it pays the official bank rate on voluntary commercial bank reserves - which is what I was talking about in the post. If you know better, perhaps you should tell them their website is wrong? http://www.bankofengland.co.uk/statistics/pages/iadb/notesiadb/wholesale_baserate.aspx

      I note you ignore completely the Government regulators' failure to control energy and transport price rises that are well above inflation. Council tax rises are capped, of course - you ignore this too. Funny how you focus only on the supposedly "political" cancellation of the fuel duty to support your argument, and ignore other Government behaviour that doesn't support it.

      The points I made in this post stand. You haven't provided any sensible critique of them. You're nitpicking.

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    4. Oh, and I am certainly not a fan of Help to Buy. I've made that clear elsewhere.

      Carney has expressed concern about H2B:

      http://www.dailymail.co.uk/news/article-2406202/Mark-Carney-interview-Ill-step-stop-house-price-bubble-says-Bank-England-governor.html

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  8. You're right, I am nitpicking, because you invite it by arrogantly throwing remarks around like "hasn't the slightest idea", "positively embarrassing", etc.

    The information you link to on the BoE website is a bit out of date, but it is basically correct - note that it mentions that the deposit rate is 1% below bank rate (that margin got reduced as rates fell). In normal times, the BoE has reserve requirements, but they are chosen voluntarily by the banks. The banks only get paid Bank rate on their reserves balance up to (plus perhaps IIRC a little margin for error) their reserve requirement, which is why a deposit facility with a penal interest rate exists.

    As for the rest of your rant against Rose, I suggest you read this as food for thought: http://www.nber.org/papers/w7853

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    1. I admire your loyalty to Rose, though I think it is unjustified. But you don't seem to understand the difference between criticising what someone says and attacking them personally. I criticised what Rose said, but I did not attack him personally. Saying I am "arrogantly throwing remarks around" is an "ad hominem" attack on me. I am not "arrogant": I genuinely do know what I'm talking about, and if I don't then I research it. It does seem that the Bank's information is not quite accurate, and I am very happy to correct this extremely minor point. The major points I have made stand, as you have failed in any way to undermine them.

      I remind you of the rules for this site:

      - please stick to the subject:
      - please refrain from personal attacks on me or on other commentators here.

      Your comment breaks the second of these rules. I will not publish further comments from you that dish out ad hominem attacks.

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    2. In that case, I shall leave it to your other readers to judge whether remarks such as "I don't think Rose has the slightest idea what he is talking about" and "He really should do his homework" are ad hominem and amount to an "attack on him personally" (I do not know Simon Rose by the way), and whether they think you genuinely do know what you are talking about. Thanks for the discussion.

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    3. For the record, I have actually met Simon Rose and heard him speak more than once.





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    4. I have now corrected the error you pointed out.

      Describing someone as "aggressive" and "arrogant" is an ad hominem attack. You criticise what they ARE, not what they DO.

      Saying someone doesn't know what they are talking about I agree might be regarded as an ad hominem attack. But it is actually very different. I am not attacking Rose's personality traits, which are part of who he is and not easy to change. I am saying his remarks are ignorant. That, he can and should change.

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    5. Tim Young, you may be getting confused by a nuance of language. When someone says, "I am wrong", that person is generally not referring to some moral state of being wrong, or to some inherent characteristic of being a "wrong" being. It means that they have done, communicated, or thought something incorrectly. "I am wrong" is not an ad hominem attack against one self. Similarly, "I don't know what I am talking about" and "I really should do my homework" only characterize my person to the extent that my person exhibited some shallow understanding. Ad hominem statements go straight to the person.

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  9. Can we take a step back please Frances and consider basic economics which, in my humble opinion, justify the comments in the article, although not stated. We know there exists such a thing as a real interest rate and it relates to the time preference rate that explains why individuals are savers, etc.
    What are the components of nominal interest rates? They are the real rate plus the expected inflation. A lot of evidence suggests the real rate should be approximately in line with the future growth of the economy--say 3%, for simplicity. What is inflation? Well, let us make that 2%, which is on the low side. This would indicate that a fair interest rate that compensated individuals for their time preferences and inflation should be about 5%. I.e. a very significant distance away from the official base rate interest rate. So the complaint is really about the effects of financial repression where the B of E and other central banks have artificially depressed interest rates.
    Isn't this the real issue here?

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    1. I'm sorry, Peter, but if you want to consider basic monetary economics you need to get it right.

      The Bank of England sets short rates, not long rates. Short rates reflect the growth of the economy NOW, not in the future. Long rates, which are set by the market not by the central bank, reflect the expected future growth of the economy. If individuals are prepared to lock their money up for 10 years they are likely to get a return related to the expected growth rate of the economy in 10 years' time: so, for example, 10-year gilt yields are currently 3% and may well rise more - after all, we don't expect the economy to be on the floor for ever. But savers who want instant access to their money cannot expect anything better than a return related to the current (not future) performance of the economy.

      I do not think that savers should be compensated for inflation at all unless they invest their savings in index-linked products.

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    2. I know that, thanks, I was not referring specifically to any term to interest rates. I think the issue here is financial repression and this hits longer term interest rates. After all, the B of E now owns a very large part of the gilts market. If that isn't depressing longer term interest rates and pushing them into negative real interest rate territory, I don't know what is.
      Great blog, by the way.
      Peter

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    3. Longer-term interest rates are not in negative real interest rate territory.

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  10. Sorry but any communications from Bank of England very clearly state that they do indeed control interest rates and are responsible for effects of FLS
    Bank rate has been 0.5% since the start of the crisis and interest rates did not drop too dramatically
    In May 2012 there was no problem with easily getting 3 or 4% on ISAs and savings accounts
    Yet the minute FLS hit all interest rates nose dived for the simple reason that Banks and B Societies can get money too cheaply from Bank of England

    There is no other reason whatever for what are now such apallingly low interest rates causing misery for millions who must rely on savings income whilst at the same time offering mortgage rates of just 1.5%which is without doubt fuelling house price rises and ultimately means heading to another financial crash

    Frances agree that FLS and HTB are not good ideas yet refuses to face the fact that its FLS and the Bank of Englands part in FLS that is destroying savings interest and thus the lives of millions of pensioners

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    1. Deborah,

      You evidently didn't bother to read the post, or you would know that I addressed the question of whether or not FLS is directly responsible for the current low interest rates. By all means disagree, but please do so on the basis of having read the post - and it would be good if you actually had some logical reason for disagreeing, preferably with evidence. I pointed out in the post that bank funding rates were already falling across Europe by the time FLS was introduced, probably as a result of the ECB's OMT which reduced the risks to European banks (including UK banks) of holding periphery sovereign debt. There is no way that FLS is responsible for falling bank funding rates across the entire Western world, which is what we are actually seeing. You forget that banking is a global industry, and the UK is only a small part of it.

      I fear that you are not interested in what I have to say and are only interested in trolling my posts. I remind you of the rules of my site. Either engage with what I actually write, or be blocked.

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