Shortly after our last note went out, the BoE intervened in the gilt market, purchasing gilts on an outright basis in a manner similar to QE, but at the behest of the Financial Policy rather than the Monetary Policy Committee. In other words, this was a liquidity operation aimed at financial stability rather than a change in the direction of monetary policy, although still has the effect of expanding the BoE’s balance sheet, at least for now.
The BoE’s QT program was postponed until the end of the month, so the overall balance sheet expansion from the liquidity operation will likely be short-lived. As we suggested in our last note, many will view this as fiscal dominance of monetary policy, but monetary policy has not yet changed. Those complaints are also somewhat late given that, during the pandemic, the Treasury established a borrowing facility with the BoE such that it could borrow directly from the central bank if it chose to do so. The institutional and functional separation of UK monetary and fiscal policy has already been breached, at least in principle.
The intervention was necessitated by DB pension funds being heavily margined on their LDI strategies. Those strategies are effectively mandated by regulation and are a nice illustration of the sometimes perverse collateral supply effects highlighted by Carolyn Sissoko. I’m not sure if she would agree with the application of her model to this episode, but the BoE’s actions would seem to fit with her ‘dealer of last resort’ function.
This episode is also just another instance of the case against DB pension schemes, which are an accident waiting to happen at the best of times (narrator: these are not the best of times). In Australia, our DC pension system would just see any long-term losses land in the laps of households without blowing-up financial intermediaries along the way. Australia is a very egalitarian place!
Perhaps the worst take came from Brad Setser, who tried to shoehorn this episode into his and Nouriel Roubini’s busted BW II break-down thesis from 2005:
Every bad macro take has its day and Brad has obviously been waiting very patiently for his, but this isn’t it.
In amongst all the bad takes (and a not inconsiderable amount of bad faith), there were some good ones. A colleague pointed me to this piece by Keir Bradwell, which agrees with me that this is all about monetary and not fiscal policy. Keir thinks it’s about the BoE being too easy rather than too tight. The price action could be consistent with either view, which is just another way of saying never reason from a price change. Sam Dumitriu walks through some of the tax measures and explains why they might fail for basic rational expectations reasons, not because they are otherwise bad policy.
It is worth pointing out that the combination of higher yields and a weaker exchange rate is a common feature across the G10 (ex-US obviously). The UK is just experiencing a more exaggerated version of this phenomenon. It is also worth noting that up until this month, the UK was experiencing less of an economic policy uncertainty shock than the rest of the world. Typically, UK economic policy uncertainty is highly correlated with the rest of the world, but up until this month at least has diverged in the UK’s favour. That said, economic policy uncertainty in the UK was still above historical averages in August:
I have no argument with the proposition that the UK has been badly governed. Unfortunately, there is nothing new in that observation. But if there was a mistake with the mini-budget, it was not so much in the policy measures, but in failing to articulate a complete fiscal strategy to back-in the proposed pro-growth measures, which would also provide reassurance in relation to any monetary-fiscal interactions. The UK has cycled through just about every fiscal rule known to man in recent decades, so markets could be forgiven for being skeptical, but they are obviously going to be less forgiving of new measures with no fiscal strategy whatsoever. The fact that Labour now has a 33-point poll lead over the Conservatives isn’t doing GBP-denominated assets any favours either.
US September #NFP guesses
US September non-farm payrolls has the market expecting a 250k gain in payroll employment after the previous month’s 315k increase. The unemployment rate is seen ticking down from 3.7% to 3.6%. For the first time in a long time, we are below market on the two releases, with payrolls forecast at 240k and the unemployment rate steady at 3.7%.
ICYMI
The Fraser Institute has released the third part of my Australia-Canada productivity study, The Canadian-Australian Productivity Gap: Comparative Institutions and Policy Settings.
The Commodity Futures Trading Commission is being sued in the Western District of Texas over its attempt shut-down PredictIt, heir to Victoria University’s iPredict, which was itself killed off by New Zealand regulators. If you want to join the suit, email PredictItSuit@outlook.com.
A Keynesian perspective on why New Keynesianism is not very Keynesian:
Meme stocks: