By George Pickering
Last week it emerged that, for the second time in two weeks, the Bank of England has been unable to buy back enough government bonds to achieve its target. The attempted bond buyback was part of the Bank's post-Brexit emergency strategy, in which it hoped to execute £60 billion of new quantitative easing (QE) by repurchasing UK Treasury gilts from private businesses. However, two weeks ago the Bank was forced to reveal that, for the first time in its history, it would be unable to complete its bond buyback, as businesses were unwilling to part with their gilts at what the bank construed to be the market rate. While the Bank attempted to dismiss this problem by promising to make up for the £52 million shortfall in six months time, the fact that it has run into the same roadblock yet again, a mere two weeks later, will make this promise appear far more tenuous.
Why Aren't Firms Selling Their Government Bonds?
This is certainly a moment of historical significance in the development of modern central banking. The BoE has been resorting to the "unorthodox" monetary policy of QE since 2009, but has never before found itself stymied by such a number of private firms unwilling to co-operate with it. The way in which the Bank chooses to finally resolve this situation, whether by resigning itself to the fact that firms won't sell at the prices it's offering, or by employing some power to force them to do so, will likely give significant insights into how central banks' techniques will develop in the future. While it might be tempting to see this lack of co-operation by private firms as a conscious act of rebellion against the Bank, it's probably still a little early to begin packing for Galt's Gulch. In fact, the actual reasons why firms clung to their gilts so tightly are far more interesting. This new phenomenon provides both an extremely clear illustration of the Austrian insight that artificially low interest rates can inflate unsustainable asset bubbles, as well as an unusually transparent window into the formation of the current government debt bubble, which will likely precipitate the next crash.
London's Daily Telegraph, when reporting on the news, offered a particularly direct and stark summary of the Bank's aims. The BoE's new bond buyback, it explains, is part of a conscious effort "to push up the price of the government bonds," in the hopes that this will lower interest rates and "force investors to take bigger risks" if they want to see any sort of return at all.
The Central Banks Wants Us to Take Bigger Risks
The idea that the British government is actively pushing for investors to behave more riskily is a jarring thought indeed, particularly given the long-term causes of the Great Recession from which we are only just emerging. Efforts to increase home ownership rates, by the Clinton and Bush administrations, cajoled lenders into offering mortgages to ever more risky borrowers, and ultimately played a significant role in setting up the sub-prime mortgage crisis which kicked off the last recession. With the BoE now attempting to encourage similar risk-taking across the entire British economy, it's hard to imagine that the consequences will somehow be entirely positive this time around.
However, quite apart from that worrying new aim, the fact that the bank is actively seeking to bid up the price of the government bonds provides a clear example of how easy money and low rates are inflating a government debt bubble. Not only has the Bank's recent slashing of interest rates made government debt seem even more attractive, as one of the few "safe" investments still capable of offering a return, but their ability to effectively conjure money from thin air has allowed them to bid the price of the gilts still higher. Even as the Bank consciously aims to inflate the price of government bonds, this new development could be a sign that this bubble has begun to inflate beyond even their control, as they still couldn't attain their target even when bidding 5 bps above what they considered to be the market rate. As governments and central banks around the world seem to be inflating similar bubbles in the prices of their government bonds, it looks increasingly likely that this boom in government debt may prove to be the cause of the next worldwide bust.
These recent failures by the Bank of England to complete its weekly gilt buybacks are representative of how the government debt bubble - which central banks have created - is now beginning to spiral out of their control. However, the eagerness of firms to hold onto their gilts as a consequence of this will still pose a real obstacle to the Bank going forwards. With the post-Brexit economy looking increasingly less like the kind of catastrophe the BoE's policy had been designed to tackle, a few more such obstacles might be a useful nudge to policymakers, perhaps even prompting them to question the path down which they are now taking us.
Disclosure: No Positions