The Bank of England moved to calm the bond market rout after the tax cut storm


  • BoE starts buying bonds, delays gilt sales
  • IMF ‘not recommending’ policies like UK growth plan
  • Finn Kvarteng and Prime Minister Truss have come under fire for their policies
  • The pound fell 0.7% to $1,065
  • Kvarteng meets with the bank managers again

LONDON, Sept 28 (Reuters) – The Bank of England sought to quell a firestorm in Britain’s bond markets by saying it would buy as much government debt as it needed to restore order after new Prime Minister Liz Truss’ plans to cut taxes caused financial chaos.

Britain’s central bank, which had failed to cool the sell-off with verbal interventions over the previous two days, announced on Wednesday the immediate launch of an emergency bond-buying program aimed at preventing market turmoil from spreading.

“If dysfunction in this market persists or worsens, there would be a significant risk to UK financial stability,” the BoE warned.

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Britain’s mortgage markets froze, pension funds dumped gold and corporate borrowing costs rose on Friday after Finance Minister Kwasi Kwarteng unveiled a tax cut plan on top of an energy bill funded by a huge increase in government debt.

A Treasury source said Kwarteng would not resign and the government would not reverse its policy. A second person familiar with the situation said Truss still supported Kvarteng and would soon announce further economic reforms.

The BoE will now buy up to 5 billion pounds ($5.31 billion) a day of British government bonds with maturities of at least 20 years starting Wednesday and ending on October 14.

His announcement, which marked a sudden reversal of plans to sell bonds he has been hoarding since the 2008-9 global financial crisis, immediately pushed borrowing costs lower.

The 30-year gilt yield was set for its biggest decline on record until 1992. The pound pared earlier losses to rise against the dollar. At $1.0860, it is up 1.2% on the day and down 11% over the past three months.

The BoE has said it will return to its bond-selling plan at the end of October.

But political and economic upheavals continued to reverberate, causing growing alarm in foreign capitals.

Kwarteng tried to reassure investment bank chiefs at a meeting described by attendees as nervous, and two senior BoE officials were excluded from public events scheduled for Wednesday and Thursday.

A source at the meeting said Kwarteng asked the assembled financial executives what they could do to calm the markets.

“It didn’t go unnoticed by them that he put the problem in their lap,” the source said.

Investors and economists said the government’s plan to wait until Nov. 23 to unveil its full debt-reduction policy and the BoE’s failure to make its next interest rate announcement on Nov. 3 were at odds with the market frenzy.

“Truss and Kwarteng now face a serious economic crisis as global financial markets expect policy changes that they and the Conservative Party will find unpalatable,” said Mujtaba Rahman of the Eurasia Group.

RESTORE ORDER

Kvarteng’s plans for deep tax cuts and deregulation to lift the economy out of long-term stagnation have been seen as a return to the Thatcherite and Reaganomics doctrines of the 1980s.

Tourists take shelter under umbrellas as they walk in central London, Britain, September 27, 2022. REUTERS/Hannah McKay

But they have caused panic among some investors and concern among many lawmakers in the ruling Conservative Party.

The markets were under pressure, pension advisers said, with pension schemes selling bullion to meet emergency collateral calls on underwater derivatives positions, or selling to reduce exposure to those cash calls as they failed to meet them.

“There are schemes that are running out of cash at the moment,” one pensions adviser said ahead of the BoE intervention. Another person familiar with the decision confirmed that the BoE was acting because of problems faced by pension funds, which are the main long-term holders of gold.

The BoE said the purchases were intended to restore orderly market conditions. “Acquisitions will be made to the extent necessary to achieve this result.”

Foreign government officials and international financial institutions have begun to go public with their criticisms.

In a rare intervention on a G7 country, the International Monetary Fund urged Truss to reverse course.

US bond giant PIMCO said last Friday it would be less reliant on sterling than it was before the announcement.

The Minister of Economy of Spain, Nadia Calvino, spoke more openly and called this policy a disaster.

MARKET SOLUTION

So far, the government has refused to budge.

Kwarteng, an economic historian who served two years as labor minister and a free-market advocate, insists that tax cuts for the rich, along with propping up energy prices, are the only way to revive long-term economic growth.

The jitters in the markets and agitation among Conservative MPs will put enormous pressure on him and Truss, who is elected by the party’s roughly 170,000 members rather than the wider electorate. The party’s annual conference is held next week.

Conservative MP Simon Hoare, who is backing Truss’ rival Rishi Sunak for the leadership, blamed the government and the Treasury for the policies that caused the market storm.

“They were written there. This incompetent madness cannot continue,” he said.

One area of ‚Äč‚Äčimmediate concern to policymakers is the mortgage market, after lenders received a record number of offers and anecdotal reports suggested people are struggling to complete or modify mortgage deals.

The downturn in the housing market would be a major shock in a country where rising home prices have for years signaled a sense of general affluence and homebuyers have grown accustomed to more than a decade of low interest rates.

The IMF’s intervention is also symbolic for Britain: its 1976 bailout following a balance-of-payments crisis led to massive spending cuts and has long been regarded as a humiliating low point in the country’s modern economic history.

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Written by Kate Holton; Additional reporting by Elizabeth Piper, William James, Dhara Ranasinghe, Carolyn Cohn, Sachin Ravikumar, Paul Sandle, Muvija M, and William Schomberg in London and Emma Pinedo Gonzalez in Madrid; Edited by Alex Richardson, Toby Chopra, William Schomberg and Catherine Evans

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