UK bankruptcy? The Treasury has to pay millions to the Bank of England
Bonds, which played a crucial role in the UK’s economic recovery after the financial crisis, will be “materially” more burdensome than expected until at least 2025, according to a Deutsche Bank report. These forecasts contradict previous estimates and pose challenges for the Bank of England.
The Asset Purchase Program (AFP) implemented by the Bank of England between 2009 and 2022, aimed at improving financing conditions for companies affected by the 2008 crisis, has taken an unexpected turn. The bank has built a bond portfolio worth £895bn as interest rates remain historically low. However, since the end of last year, the institution has begun to unwind this position, actively selling bonds at an expected rate of £80 billion per year from October 2022.
The problem arises when the Bank of England was forced to tighten monetary policy faster than expected to control inflation, which led to increased costs. This reduced the value of the government bonds purchased, while the bank began selling them at a loss.
Deutsche Bank highlights that the Treasury transferred more than £14 billion to the Bank of England in one month to cover losses caused by the quantitative easing programme. This figure is £5.4 billion higher than the Office for Budget Responsibility (OBR) forecast in March.
Deutsche Bank chief economist Sanjay Raja notes that payments will continue to exceed government expectations for two main reasons. First, interest rates rose beyond what had been estimated in the Office for Budget Responsibility’s forecasts. Second, bond prices fell, which led to further valuation losses as the Bank of England dismantled the AFP through bond sales.
This situation presents significant challenges for the Bank of England and the Treasury as they struggle to manage the unintended consequences of the bond program amid changing economic conditions and rising interest rates.
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