A Tale Of 2 QE's

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 |  Includes: FXB, GBB, UDN, UUP
by: The Motley Monetarist

The Bank of England commenced QE operations right after the 2008 crisis. Between March 2009 and January 2010, the Bank purchased 200 billion pounds of assets, mostly long-term government gilts, representing 14% of GDP. A 2% inflation target was set in place explicitly, and yields were targeted through portfolio balancing, liquidity premia, and eventually to bank lending. The BOE has not stated one way or the other whether it will taper off its QE, but the recent announcement by the Fed that it will continue QE leads inquiring minds to immediately compare the two QE's. Overall, the BOE may have had less immediate success in depressing asset yields compared to the Fed, but, given the nature of the assets it has purchased, its conservative strategy will probably payoff in the longer run. The relative strength of its balance sheet compared to that of the Fed also will give it greater flexibility in the future. Let's look at a report card of the two QE's.

Bulk of BOE QE asset purchases under ten years to maturity of relatively safe gilts.

Although both the Fed and the BOE commenced QE almost in tandem, the BOE targeted different assets. The Fed purchased, predominantly MBS's (mortgage backed securities) in an attempt to mitigate the destructive weight of these bonds in the portfolio of the troubled banks.

The BOE, for its part, focused on gilts, and about half of its cumulative purchases were within the shorter end.

The following Table shows that 46% of the Fed's asset holdings as a result of QE are composed of securities less than ten years in maturity, approximately the same percentage as with the BOE. The big difference is that MBS's compose the vast percentage of securities with maturities greater than ten years. The net effect on long-term yields of these securities is still uncertain, even if one abstracts from the fierce legal battles over the location of title for the associated mortgages and whether Article 9 or 3 of the UCC would be the governing law in these disputes. The fact that these bonds are now lodged in the balance sheet of the Fed will do nothing to clear these already murky legal waters.

Also of note is the percentage of total central bank liabilities composed of notes in circulation-15% for the BOE after 4 years of QE compared to 32% for the Fed after a comparable amount of time.

Asset holdings

Less than ten years

Greater than ten years

Total liabilities

Of which notes in circulation

BOE

80 billion £

120 billion £

402 billion £

59.8 billion £ (14.8 % of total liabilities)

Fed

1.6 trillion $

1.3 trillion $

3.6 trillion

1.16 trillion $ (32% of total)

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Source: Bank Of England and US Federal Reserve

Macroeconomic effects of QE in the UK more muted to date but also more stable.

The BOE has stated an inflation objective. The Fed has stated the same, with, in addition, recently, attempts to target the unemployment rate as well. More immediately, the effect on yields, both on the short and medium term have been more muted in England. Inflation targeting has been less successful in England. The story told by these graphs is that the English QE has been more inflationary and has not succeeded as well in depressing yields across the Atlantic compared to in this country. (Data on inflation and yields in the US from the Federal Reserve Bank of St. Louis and the Bank of England data base).

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The BOE has had some success in depressing yields on the short end recently, but not so much in the medium term. Perhaps this is because the Bank's asset purchases have been more conservative than those of the Fed. And also why the effects will be longer term in nature.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.