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The UK stepped up efforts to prevent financial market chaos from spreading beyond a $1 trillion part of the pensions industry after Prime Minister Liz Truss’s government unsettled investors.
Chancellor of the Exchequer Kwasi Kwarteng said he’d deliver his fiscal strategy along with forecasts for the economy endorsed by the budget watchdog on Oct. 31, almost a month earlier than planned. The Bank of England extended emergency measures backing the bond market through early next month.
The moves are part of the government’s effort to regain the confidence of investors. Kwarteng triggered a rout in sterling-denominated assets last month with a £45 billion package of unfunded stimulus that undercut the BOE’s inflation-fighting program.
“It is extraordinary,” said Joshua Raymond, director at financial brokerage XTB. “Market interventions of this type by the central bank are not normal.”
Kwarteng and BOE Governor Andrew Bailey this week travel to Washington for the autumn meetings of the International Monetary Fund, which has been critical of the UK fiscal program.
Kwarteng had been under increasing pressure from city firms and politicians to spell out how he intends to stabilize the public finances after his initial “mini-budget” sparked a market sell-off. The proposals — including full economic forecasts from the government’s fiscal watchdog, the Office for Budget Responsibility — had been due for release Nov. 23, but the Treasury said on Twitter on Monday that they will now be released sooner.
In a separate move also set to be announced Monday, Truss overruled Kwarteng’s intention to appoint a high-profile outsider to lead the Treasury. Instead, the two are likely to promote a civil servant with experience in the department to replace Tom Scholar, the career official Kwarteng fired in his first hours on the job.
What Bloomberg Economics Says …
“Absent another pivot, spending cuts will be needed to balance the books. We estimate the government needs to identify £58 billion of spending cuts at the 2026-27 horizon to get debt falling decisively as a share of GDP.”
–Jamie Rush, Bloomberg Economics. Click for the INSIGHT.
Crucially, the plan will now come ahead of the Bank of England’s next interest rate decision on Nov. 3, a key demand from the Tory chairman of Parliament’s Treasury Committee, Mel Stride, who’d expressed concern that the government needed to calm markets earlier and reduce upward pressure on interest rates that’s affecting the mortgages of millions of homeowners.
The new date will allow the OBR to conduct “an in-depth assessment of the economy and public finances,” Kwarteng said in a letter to Stride that the committee chairman posted on Twitter.
“The markets will have two ‘official’ forecasts in the same week, which will hopefully provide some greater certainty within which to plan,” said Kitty Ussher chief economist at the Institute of Directors.
Kwarteng’s strategy will set out how the government intends to have debt falling as a share of Gross Domestic Product over the medium term, a goal that is likely to require significant cuts to public spending after Kwarteng announced the biggest set of tax giveaways in half a century on Sept. 23. The question of where cuts will fall may trigger fresh political rows for the already embattled prime minister
Earlier Monday, the Bank of England acted for the second time in two weeks to backstop pension funds that follow so-called liability-driven investment strategies –- LDIs.
The central bank will ensure that funds that need to unwind their positions will have liquidity and will step up its purchases of long-dated gilts before its first program of emergency bond-buying ends on Friday. Kwarteng’s mini-budget last month triggered a rout in sterling-denominated assets that pressured LDI funds to liquidate £50 billion of long-term bonds, sparking fears of an industry meltdown and the BOE’s first intervention.
The BOE said it will:
Double the size of its auctions to purchase long-dated UK government bonds to £10 billion a day until Oct. 14, when the BOE plans to close that program as previously announced
Launch a Temporary Expanded Collateral Repo Facility, or TECRF, that will run beyond the end of this week until Nov. 10. Its purpose is to enable banks to ease pressures in LDI funds through liquidity insurance operations.
Temporary expansion of collateral it accepts under its existing Sterling Monetary Framework to include corporate bonds.
Regular repo-related operations also remain available to help
Together, the measures are aimed at ensuring that the LDI funds that need to unwind positions have the liquidity in the market to act by the end of this week. They also provide a broader assurance that the BOE stands ready to keep the market working even as investors make a dramatic shift in their valuation of a wide range of UK assets.
So far, investors haven’t taken up as much of the support as the BOE has offered. In the eight auctions to date, the BOE bought just £4.6 billion of bonds, about 12% of the £40 billion capacity of the program.
The 30-year gilt yield rose as much as 17 basis points to 4.56%. The market doubts if the BOE will fill orders to the maximum limit, while the new measures announced signal that an extension of its temporary bond-buying is unlikely, according to Pooja Kumra, a rates strategist at Toronto-Dominion Bank.
“We could see some messy price action around the BOE buybacks today as markets will test the bank’s buyback limits,” Kumra said.
Monday’s move also raises questions whether the BOE will be able to move ahead with separate plans to start selling off some of the assets it built up over the past decade under the Quantitative Easing program.
Those moves, due to begin on Oct. 3, so far have been delayed until the end of October. But it’s not certain how the BOE can both support the LDI market through emergency purchases while also selling bonds in regular auctions.
“To keep the long-end gilts more or less in check, they will probably have to let go this idea of actively selling of gilts,” said Bob Stoutjesdijk, a fund manager at Robeco Institutional Asset Management.
The measures set out on Monday broaden the emergency program the BOE announced on Sept. 28 to prevent difficulties in LDI funds from infecting the entire financial system.
In a letter to the chairman of the Treasury committee last week, BOE Deputy Governor Jon Cunliffe said the institution had no choice but to intervene to prevent fund managers dumping £50 billion of gilts and triggering a market crash.
“Clearly the BOE is trying to find more targeted ways to support LDI funds’ liquidity,” said Antoine Bouvet, senior rates strategist at ING Groep NV. “After moving to prevent a further jump in long-end gilts, they now intend to broaden their availability to funding (probably to allow them to meet collateral/margin calls).”
The BOE said it will continue to work with authorities and regulators to “ensure that the LDI industry operates on a more resilient basis in future.”
Read more:
Kwarteng Heads to IMF With Alarm Bells Recalling 1976 Bailout
Pension Funds at Center of Gilt Rout Get New Way to Tap BOE Cash
UK Mortgage Rates Rise Again as Kwarteng Bids to Gain Tory Trust
Truss Orders U-Turn Over Appointment of Top Treasury Official
(Updates with Treasury appointment in seventh paragraph.)
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