Ritchie\’s still not getting this gilts thing, is he?

We’ll never sell those gilts back. The IFS says we have £280bn of new gilts to sell over the next three years to fund the deficit. There is not a hope we’ll add £350 billion of resale of gilts on top of that. The only likelihood is in fact of more QE: over that period there is no way the market can absorb £280 billion of new debt.

That means that the reality is that QE will lead to cancelled debt. Every single penny of the gilts repurchased will, I am sure, be cancelled. Nothing else is possible. It’s just a matter of time before the lightbulb gets universally switched on to that fact that the debt repurchased under QE is no longer debt at all. There’s just new cash, and given that the economy needs that cash we’re not going to cancel it now, or in five years time. So let’s get real about it.

And let’s also remember there’s nothing odd about cancelling gilts: it happens all the time. They’re time limited loans. All we’d be doing by cancelling them is declaring time early. Let’s not overstate the fact that this is completely possible, and more than that, it’s desirable, and bar being early, totally normal. Then we can have a real economic debate.

The first point is that he\’s still not grasping that we know all about this idea of cancelling the gilts. It\’s called monetizing the debt. This isn\’t new and it\’s not clever. It\’s so not new and so not clever that, just as one example, it\’s actually written into the basic operating statutes of the ECB that the ECB is not allowed to do this.

It may be a good or a bad idea that the ECB isn\’t allowed to do this (I think it a bad one that it cannot do it in the short-term) but the very existence of the rule shows that mainstream economics is well aware of the argument, has been for decades and thinks that there might be just a tad more to it than Ritchie is saying.

The second is this:

And let’s also remember there’s nothing odd about cancelling gilts: it happens all the time. They’re time limited loans. All we’d be doing by cancelling them is declaring time early.

Eh? We cancel gilts all the time do we?

I know we roll them over (for actual periods of debt repayment, reducing the national debt, are rare as rocking horse shit), I know we retire particular issues. But cancel them?

When? How?

35 comments on “Ritchie\’s still not getting this gilts thing, is he?

  1. Ritchie has a tangentially good point that selling £280bn of gilts back into the market over the next three years won’t be easy.

    Seems a shame that we have a state-owned investment bank that has been forced to get rid of most of its bond desk.

  2. It’s quite important to remember that Ritchie isn’t an economist, he’s a tract writer. So, his job is to be a man who knows fuck all, writing for people who know fuck all, in order to reinforce their communal faith. Sort of, the Jack Chick of political economics. Knowledge is a hindrance not a help in that career.

  3. I’m just slightly puzzled as to how he squares his view that the QE purchases cannot possibly be sold back into the market, with his belief that the UK government will be forced to issue more debt in order to meet the needs of pension funds.

    FT Alphaville produced an interesting argument recently (or rather, Nomura did) that in the event of Eurozone collapse, the demand for UK gilts from buy-to-hold investors might rocket, making QE impossible because the BoE cannot participate in a primary auction…..http://ftalphaville.ft.com/blog/2012/02/02/865831/breaking-the-bank-in-gilts/

  4. I think its better to think in terms of a permanent expansion of the BoE balance sheet, rather than “cancelling” the gilts, although it amounts to the same thing (it’s like if I borrow £10 from you, then every time I repay you, you instantly give me another £10, from here to eternity – in effect, that debt is cancelled).

    The BoE always has some quantity of gilts on its balance sheet, corresponding to the base money supply, which is effectively “cancelled” government debt, in this fashion.

    This quantity tends to increase over time (so there is a gradual permanent expansion) and Richie could have a point if he was arguing that we may well see a jump in the quantity of gilts held by BoE in perpetuity, i.e. a permanent monetary expansion – that is to say, if you look at graphs of the BoE balance sheet, there is trend growth pre-QE, then a big jump QE, he could be arguing that we will not see the balance sheet shrink back down to where trend growth would have taken it, i.e. QE will not be completely reversed. That is, at least, a possibility.

    But claiming that QE will not be reversed at all, for sure, is utter idiocy. As ever, if anybody at The Guardian, LC or any other left-wing outlet that publishes Richie, actually knew their economics, these warblings would be like a flashing siren proclaiming the author to be a clueless crank who should be avoided like the plague. But their ignorance leaves them unable to distinguish between Richie’s dribblings and any other ‘controversial-but-possibly-correct’ economics argument

  5. Central bank intervention is at best a containment and in the long run leads interest rates that have been artificially kept low to in the end soar upwards. It leads to debasement of the currency that will leak out as inflation. Not as you say necessarily a bad thing in the short term as long as the underlining structural problems that necessitated central bank intervention are quickly corrected. However restructuring in depth and pace that is needed is not happening. To blame are the EU, socialist and green policies and practices, as advocated by the likes of Ritchie, being dominant. So what ever Richie now advises we should do to ameliorate our debt even if it is correct, which it patently is not, is not going to stop us sometime soon falling off the economic cliff.

  6. Shinsei67

    no, he doesn’t have a good point. If the BoE decides it wants to reverse QE that will mean it wants to raise interest rates [*]

    there is widely seen to be a global shortage of perceived safe assets

    see here
    http://www.economist.com/node/18650928
    and
    http://macromarketmusings.blogspot.com/2011/12/why-global-shortage-of-safe-assets.html
    and
    http://online.wsj.com/article/SB10001424052970203686204577112172217398492.html

    the BoE just has to engineer an increase the yield UK gilts offer, which is exactly what selling shed loads of them would do, and it could shift the lot no trouble

    [*] the nominal rate might no move in absolute terms, but think about real rates i-E(pi), the BoE will be moving that relative to the counterfactual

  7. “And let’s also remember there’s nothing odd about cancelling gilts: it happens all the time. They’re time limited loans. All we’d be doing by cancelling them is declaring time early.”

    good God, you don’t think he’s talking about repaying them, do you?

    if so: the stupid, it burns.

  8. @Luis Enrique:

    So, there is a “shortage of perceived safe assets”, but evidently not such a shortage that UK pension funds haven’t sold 20% of gilt issuance back to the BoE.

    And these pension funds are going to be massive buyers of gilts; despite the fact that interest rates will be rising and thus gilt prices falling ?

  9. “And let’s also remember there’s nothing odd about cancelling gilts: it happens all the time. They’re time limited loans. All we’d be doing by cancelling them is declaring time early.”

    I seem to remember that the government (actually the Debt Management Office) bought a few of the old issues in the market and cancelled them, probably in the early years of Brown being Chancellor when he followed Tory spending plans and ran a tiny surplus for a couple of years.

    I vaguely remember a claim that if it went on much longer we would actually have paid off all the Napoleonic War debt (which was permanent). But of course it didn’t go on any longer.

  10. Sinesei67

    did you read any of those links?

    it’s not “despite”, it’s “because” – falling gilt prices and rising interest yields makes buying gilts more attractive [*].

    QE has bid up bond prices and depressed yields, which makes selling gilts more attractive. Hence owners (such as pension funds) have sold and BoE has bought.

    [*] ceteris paribus, just thinking about changes in prices and yield caused by BoE market participation, controlling for whatever else happens to be happening at the time.

  11. His last sentance says it all “Then we can have a real economic debate.”

    Since when has he had a proper economic debate, let alone a normal debate. His view of a debate is “respectfully I think you are wrong. End of”.

    Economic debate from someone who revels in the fact that he didn’t finish his economics course. Ha ha ha ha ha ha hah

  12. @Luis

    “falling gilt prices and rising interest yields makes buying gilts more attractive”

    Gilts are currently 2.15%. Why would anybody buy here if expectations are for yields to rise.

    I’m not a buyer of gilts at 2.15%. I might be once yields back up to 5%.

    But there are £280bn of gilts to sell in the interim.

  13. “Since when has he had a proper economic debate, let alone a normal debate. His view of a debate is “respectfully I think you are wrong. End of”.”

    Must say I have never heard Mr Murphy reply respectfully to anyone critical.

    His view is always “You are wrong. You are evidently someone who supports criminality and tax evasion. Why do Tories hate poor people so much ?”

  14. Shinsei67

    I think you have it arse about tit.

    people own whatever bonds they own, for whatever reasons, including expected future BoE behaviour.

    This being the case, I am saying the BoE will be able to sell those bonds by pushing down prices and driving up yields.

    because I find it easier, let’s talk about a bond that repays £100 selling for £98, roughly a 2% yield.

    I am claiming that if it wants to sell all those bonds it has bought, all the BoE has to do is say “who would like to buy this bond I am selling for £95” and it will find all the buyers it needs, one of those buyers, by the sounds of it, potentially being you.

  15. sorry, would have been clearer if I had written:

    people are buying and selling bonds, for whatever reasons, including expected future BoE behaviour.

    This being the case, I am saying the BoE will be able to sell thee bonds it has bought via QE by pushing down prices and driving up yields.

  16. “I am claiming that if it wants to sell all those bonds it has bought, all the BoE has to do is say “who would like to buy this bond I am selling for £95? and it will find all the buyers it needs, one of those buyers, by the sounds of it, potentially being you.”

    But that isn’t what the BoE will be wanting to do. They will be wanting to sell teh gilts at as high a price as possible.

    Thus they will first try and sell £50bn at £98.

    And no one will want to buy knowing that there will be another £50bn along at £97, and then another £50bn at £96.

    I’m not saying it is impossible, just difficult to offload that amount of gilts without crashing the price, resulting in a massive loss for the BoE, and also spiking interest rates to the detriment of the rest of the economy.

  17. Shinsei67,

    I think you are forgetting the BoE conducts monetary policy, it’s not just a bond investor.

    If the BoE decides inflation expectations are rising higher than desired (so holding nominal rates constant, expected real interest rates are falling) the MPC wants to contract monetary policy and sell bonds and it wants interest rates to rise, so it isn’t going to sell those bonds “at as high price as possible”. The whole point is the BoE isn’t going to start selling those bond until it wants to see interest rates rise (i.e. bond prices fall). Yes it may make a loss in the process.

    If we are in a world where safe assets are in short supply, if, for sake of argument, the BoE start selling bonds at £95, it will find a flood of buyers, pushing the price back up, so if the BoE wants to achieve an interest rate consistent with gilts selling for £95, will will have to flood the market to soak up demand. Again, it will have no trouble flogging those bonds if it wants to raise rates, which the whole damn point is that it will want to do, at some point in the future. Rates aren’t staying where they are forever … unless Richie is right, of course.

  18. Look at it a different way. Okay, you think, depending on what’s happening with other asset classes world wide, that when it comes to it, the BoE could find itself struggling to sell those gilts it bought via QE without having to let interest rates rise higher than it wants them to go (say it wants to contract monetary policy to some extent, but not too sharply).

    In which case, it won’t want to sell those gilts bought via QE, and Richie will be (partially) correct, they’ll stay on the balance sheet.

    But that’s just another way of predicting that the BoE is going to keep monetary policy relatively expansionary for a long time (i.e. it isn’t going to want rates to a level consistent with it having flogged all those gilts).

    If the money multiplier does expand again, inflation expectations kick off, we might very well see interest rates spike as the BoE looks to suck money out of the economy by reversing QE.

    The point is that you cannot talk about these thing without thinking first about desired monetary policy.

  19. “I think you are forgetting the BoE conducts monetary policy, it’s not just a bond investor.”

    But when you have £280bn of bonds to unload, plus funding an ongoing substantial annual deficit and dealing with the usual day-to-day management of existing debt issuance then I suspect the BoE will have to act more like a bond investor than it is used to.

    Tim adds: The corollary of which is that you are simply saying that the BoE is going to monetise some of the debt.

    Which is one of the things I keep banging on about. Ritchie’s just talking about something which is very well known. The monetising of debt. The problem is, Ritchie doesn’t know that he’s talking about something very well known.

  20. “the BoE will have to act more like a bond investor”

    No, no, no. The BoE has a Treasury indemnity against losses on the Asset Purchase Facility, explicitly created so that it does not have to worry about balance sheet risk from changes in bond prices.

  21. Shinsei67

    I guess the bottom line is that you think it might be harder than I’m presuming to unload those bonds without letting interest rates spike to unacceptable levels (i.e. out of line with desired monetary policy) – if correct that raises the probability of some of them not being sold.

    But we know that BoE will only be selling them when it wants to raise rates – we don’t know how demand for UK gilts will respond when the BoE starts doing that, but the point of the shortage of global assets thing is that the BoE does want to unload the lot, it might only take a small increase in yields to bid in buyers for the lot.

  22. ah, JAT, that’s interesting. thanks. If the BoE does make a loss, is the Treasury going to have to cough up actual tax revenues to the BoE to cover it?

  23. @ JAT

    Yes, very interesting. That’s going to be an interesting conversation between Osborne and King over who takes the losses !

    @ Luis

    As I said I don’t think it impossible to offload the gilts just that such a large amount will have knock-on effects on other markets. These pension funds that sold the gilts in the first place have obviously done something with the monies raised.

    I just hope they aren’t planning to invest it in the Facebook IPO.

  24. There is very little point explaining this to him. He simply does not understand it. He depends upon his readers not having the education to understand these issues and then simply feeds off certain human emotions. Greed, hate, etc.

  25. Pingback: When there is a shortage of safe assets it is easy to sell safe assets « Left Outside

  26. “is the Treasury going to have to cough up actual tax revenues”

    Yes, I think so, a real student of banking/macro should be able to do the logic better than me, though.

    To stay in control of short term interest rates the BoE must be able to contract or extend the supply of base money as much as it desires.

    It can ONLY contract the supply of base money to the extent to which it has real assets for which it can swap that base money. (i.e. sell gilts for reserves)

    If the BoE has a £300bn mismatch between its assets and liabilities, because the APF assets got “cancelled” by Chancellor Richie (shudder), it risks losing control of short term interest rates. If it loses control of short term interest rates, it loses control of price stability. That would be game over.

    Therefore HM Treasury must inject equity (real taxpayer resources) to make up any shortfall on APF.

    An alternative way to think of that would be as the central bank FORCING the govt to run contractionary fiscal policy in the case where AD is growing too fast.

    What say ye?

  27. JAT

    I don’t even want to start thinking through what would happen if the APF assets got cancelled.

    If however one tried to impose the rule “do not reverse QE” (i.e. keep that debt monetized) the BoE would still have some gilts to play with to conduct MP – should that quantity prove insufficient, it loses the ability to control inflation as you suggest.

  28. I found a paper by Willem Buiter on this which has a more thorough analysis, but I think he comes to the same conclusion, that loss of value of assets o the balance sheet could lead to lack of control over price stability.

    http://www.cepr.org/pubs/policyinsights/PolicyInsight24.pdf

    Worse than that, even the maximum amount of real resources the central bank can extract though seigniorage may not be enough to close the central bank insolvency gap. This could happen if the central bank had a large stock of foreign-currency denominated or index-linked liabilities. In that case, without a capital injection from outside the central bank, the central bank cannot meet its funding needs from its own resources. The result would be hyperinflation and/or central bank insolvency.

    What seems totally bizarre in all this is that Richie seems to completely dismiss the existence of the BoE balance sheet. He’s not doing an MMT-style “everything is accounting woo hoo” analysis, he’s just IGNORING the fact that BoE has a balance sheet with real liabilities which correspond to real private sector assets. He hasn’t read a basic undergrad macro/banking book. He doesn’t understand what base money IS.

  29. JAT

    He’s an accountant, not a central banker. He thinks that as the Bank of England is wholly owned by the Treasury (which is true) its balance sheet should be consolidated into the Treasury’s balance sheet. When you do this, the debt is eliminated from both sides. In his mind that means it’s cancelled. The gilts still exist, but they aren’t on the consolidated balance sheet.

    I tried pointing out that the debt isn’t cancelled, because after consolidation the Treasury is left with a cash liability exactly equal to the value of the eliminated debt. He told me I was doing single entry accounting, or possibly triple entry accounting . Then he produced a worked example which, lo and behold, ended up with a cash liability in the Treasury accounts exactly as I predicted. The debt is not cancelled, it changes form from a time-limited, redeemable liability to a perpetual non-redeemable liability. He then assumes that because cash has no time limit and the debt has been eliminated due to consolidation entries, the cash will remain on the balance sheet in perpetuity so can be ignored. I tried to explain why it can’t be ignored but was then slapped down and silenced. Again.

    In RM’s mind the BoE’s balance sheet has no real existence, and the fact that the gilts really exist and are balanced by real money in real bank reserve accounts is irrelevant.

  30. Frances, yup.

    But how could you avoid doing a Google search for “bank of england balance sheet” if you were an accountant trying to understand the accounting impact of QE? How could you avoid doing that most trivial bit of research?

    Instead he seems to have literally made up how he thinks it should work, and is then stating that as absolute hard fact, and everybody else is obviously wrong.

    How do you get to be that way? Really bizarre.

  31. JAT

    I suspect that he sets up a straw man then does just enough research to make it look to the uninitiated as if he knows what’s he’s talking about. I’ve called him out on inadequate research a number of times. It’s one of the reasons why he hates me.

    Can we get him under the Trade Descriptions Act for the title of his website? It isn’t research, not really…..

  32. Murphy doesn’t concern himself with details, but in broad terms he’s right. There’s no immediate prospect of unwinding the QE, and I’m confident that some or all of the gilts involved will be rolled as they mature. Nor is there any sign of excessive inflationary pressure as a result of it.

    Nor do the gilt markets seem to be concerned about the size if the government debt. So whereas Murphy isn’t talking sense about cancelling the BoE’s gilts, he’s right that it would be meaningful to concern ourselves with government debt net of BoE holdings, rather than with gross bond issuance.

    None of this precludes the BoE from taking measures to shrink the monetary base in the future, if that seems necessary.

  33. PaulB

    I agree with you (and Murphy) that international investors don’t seem very concerned about the size of the UK’s national debt. We don’t have a debt crisis, not because QE has cancelled the debt but because investors don’t regard it as a major problem. That is to my mind also part of the reason why sterling is not under pressure. The two are inextricably linked.

    I’m not sure investors would remain quite so sanguine if they believed that QE would never be unwound, and that it would be extended to monetise future deficits – as Murphy suggests. And I definitely don’t think that making permanent the debt monetisation we have already done gives us carte blanche to issue lots more debt to finance lots of government spending – as he also suggests.

    Re inflationary pressure – actually I do think there is some inflationary pressure from QE due to import price rises. But I agree it’s not significant. And indeed no-one is suggesting that monetisation in a deflationary environment would cause major inflation. What we are suggesting is that there is serious risk of inflation when the economy returns to growth if QE is not unwound and production increase is insufficient to mop up increased demand in the economy. At present people (including investors) are saving. When they start spending again, and the banks start lending again, all that extra money would be an enormous demand stimulus. Are we confident that production will increase sufficiently to mop it all up?

Leave a Reply

Name and email are required. Your email address will not be published.