The Bank of England did Wednesday what the Fed probably should have done last Tuesday – namely, take a holistic approach to emergency action in the face of a crisis.
The MPC voted unanimously to cut rates 50bps in an emergency move that takes Bank Rate back to a record low at 0.25%. Generally speaking, that’s at least as large a move as the market wanted and expected (market expectations and market wishes have become one and the same lately – that’s what happens when expectations morph into outright “demands”).
Further, the BOE rolled out a new funding vehicle (the “Term Funding scheme for Small and Medium-sized Enterprises”, or, “TFSME”) for small- and medium-sized enterprises “financed by the issuance of central bank reserves”. In other words, financed the same way the central bank finances QE – by creating money.
OIS was pricing around 38bps of easing into this month’s meeting – a 50/50 chance of a 50bps move. That accounts for the relatively muted reaction in the pound, which knee-jerked lower on the announcement before paring losses. This also makes the meeting itself (on the 26th) superfluous, to a certain extent, although I suppose it’s possible the bank could take additional action.
“When interest rates are low, it is likely to be difficult for some banks and building societies to reduce deposit rates much further, which in turn could limit their ability to cut their lending rates”, the statement reads.
“In order to mitigate these pressures and maximize the effectiveness of monetary policy, the TFSME will, over the next 12 months, offer four-year funding of at least 5% of participants’ stock of real economy lending at interest rates at, or very close to, Bank Rate”, the BOE continued, adding that “additional funding will be available for banks that increase lending, especially to small and medium-sized enterprises”.
The statement cites “experience from the Term Funding Scheme launched in 2016” in the course of projecting that TFSME may provide more than £100 billion in term funding.
But wait, there’s more.
The Financial Policy Committee cut the countercyclical capital buffer rate to 0% of banks’ exposures to UK borrowers with immediate effect. That will last for at least a year. The rate had been 1% and was set to rise to 2% by December. Now, it will be at 0% through March of next year.
“The release of the countercyclical capital buffer will support up to £190 billion of bank lending to businesses”, the BOE remarked. “That is equivalent to 13 times banks’ net lending to businesses in 2019 [and] together with the TFSME, this means that banks should not face obstacles to supplying credit to the UK economy and to meeting the needs of businesses and households through temporary disruption”.
Now that’s what a “package” looks like. Mark Carney said it was aimed at scoring “maximum impact”, and promised the bank would do more if it has to, although that will be left to his successor. Carney will leave the BOE later this month.
“Markets will focus on the 50 basis point move, but arguably the more important measures are the ones policymakers unveiled to keep credit flowing to businesses affected by the virus”, ING said, in an e-mailed note. “As the full extent of the economic shock becomes clear, a further partial rate cut, coupled with fresh quantitative easing, is possible in coming months”.
At a presser with incoming governor Andrew Bailey, Carney said, among other things, that the BOE has operations in place to make loans to banks in other currencies and is coordinating its response with other central banks.
Bailey said policy will remain under “constant review” and persisted in the idea that there’s around 125bps more easing room available if it’s needed “when other tools are included”.
Crucially, this came just hours ahead of an expansionary budget which “will ensure businesses, the public and those in public services working on the front line against the virus get the support they need”, Chancellor of the Exchequer Rishi Sunak told the cabinet on Wednesday, ahead of delivering the budget statement to the House of Commons. “Despite the impacts of the outbreak being uncertain, we have the economic tools to overcome the disruption caused by the virus and move the country forwards”, Sunak remarked.
Boris Johnson’s government will promise to deliver around 600 billion pounds within five years, much of which is earmarked for infrastructure. The record spending binge means austerity is over. “This is a Budget for people right across the country — no region will be left behind”, Sunak declared. Public investment will jump to the highest in nearly six decades, apparently.
“The focus today is on mood, markets and policy response [and] the Bank of England’s MPC has grasped that nettle by cutting rates by 50bp at 7 am on the day of the Budget”, SocGen’s Kit Juckes wrote. “Rates are back at long-term lows [and] we will see fiscal easing and a promise of ‘whatever it takes’ to help deal with the effects of the Covid-19 outbreak”.
Ultimately, today is set to be a day when the UK delivers coordinated monetary and fiscal stimulus, a joint response missing across other locales. This should serve as a blueprint, although it won’t.
“These measures will help keep firms in business and people in jobs, and they will prevent a temporary economic disruption from causing long-term harm”, Carney told the media during the presser with Bailey. “This is a big package”.
Full statement
The front line of combatting the challenges of Covid-19 comprises the extraordinary efforts of NHS health professionals, carers, and volunteers across the country, as well as the exceptional support by the FCO to UK citizens abroad.
The Bank of England’s role is to help UK businesses and households manage through an economic shock that could prove sharp and large, but should be temporary. The Bank’s three policy committees are today announcing a comprehensive and timely package of measures to help UK businesses and households bridge across the economic disruption that is likely to be associated with Covid-19. These measures will help to keep firms in business and people in jobs and help prevent a temporary disruption from causing longer-lasting economic harm.
Following the spread of Covid-19, risky asset and commodity prices have fallen sharply, and government bond yields reached all-time lows, consistent with a marked deterioration in risk appetite and in the outlooks for global and UK growth. Indicators of financial market uncertainty have reached extreme levels.
Although the magnitude of the economic shock from Covid-19 is highly uncertain, activity is likely to weaken materially in the United Kingdom over the coming months. Temporary, but significant, disruptions to supply chains and weaker activity could challenge cash flows and increase demand for short-term credit from households and for working capital from companies. Such issues are likely to be most acute for smaller businesses. This economic shock will affect both demand and supply in the economy.
MPC reduces Bank Rate and launches new Term Funding Scheme with additional incentives for SMEs
At its special meeting ending on 10 March 2020, the Monetary Policy Committee (MPC) voted unanimously to reduce Bank Rate by 50 basis points to 0.25%. The MPC voted unanimously for the Bank of England to introduce a new Term Funding scheme with additional incentives for Small and Medium-sized Enterprises (TFSME), financed by the issuance of central bank reserves. The MPC voted unanimously to maintain the stock of sterling non-financial investment-grade corporate bond purchases, financed by the issuance of central bank reserves, at £10 billion. The Committee also voted unanimously to maintain the stock of UK government bond purchases, financed by the issuance of central bank reserves, at £435 billion.
The reduction in Bank Rate will help to support business and consumer confidence at a difficult time, to bolster the cash flows of businesses and households, and to reduce the cost, and to improve the availability, of finance.
When interest rates are low, it is likely to be difficult for some banks and building societies to reduce deposit rates much further, which in turn could limit their ability to cut their lending rates. In order to mitigate these pressures and maximise the effectiveness of monetary policy, the TFSME will, over the next 12 months, offer four-year funding of at least 5% of participants’ stock of real economy lending at interest rates at, or very close to, Bank Rate. Additional funding will be available for banks that increase lending, especially to small and medium-sized enterprises (SMEs). Experience from the Term Funding Scheme launched in 2016 suggests that the TFSME could provide in excess of £100 billion in term funding.
The TFSME will:
- help reinforce the transmission of the reduction in Bank Rate to the real economy to ensure that businesses and households benefit from the MPC’s actions;
- provide participants with a cost-effective source of funding to support additional lending to the real economy, providing insurance against adverse conditions in bank funding markets;
- incentivise banks to provide credit to businesses and households to bridge through a period of economic disruption; and
- provide additional incentives for banks to support lending to SMEs that typically bear the brunt of contractions in the supply of credit during periods of heightened risk aversion and economic downturns.
FPC releases the UK Countercyclical Capital Buffer
To support further the ability of banks to supply the credit needed to bridge a potentially challenging period, the Financial Policy Committee (FPC) has reduced the UK countercyclical capital buffer rate to 0% of banks’ exposures to UK borrowers with immediate effect. The rate had been 1% and had been due to reach 2% by December 2020.
The FPC expects to maintain the 0% rate for at least 12 months, so that any subsequent increase would not take effect until March 2022 at the earliest.
Although the disruption arising from Covid-19 could be sharp and large, it should be temporary. Such economic disruption should have less of an impact on the core banking system than recent stress tests run by the Bank have shown the system can withstand. Those stress tests demonstrated that banks would be able to continue to lend to businesses and households even while absorbing the effects of substantial, prolonged economic downturns in both the UK and the global economies, as well as falls in asset prices much larger than experienced in recent weeks.
Given the resilience of the core banking system, businesses and households should be able to rely on banks to meet their need for credit to bridge through a period of economic disruption.
The release of the countercyclical capital buffer will support up to £190 billion of bank lending to businesses. That is equivalent to 13 times banks’ net lending to businesses in 2019. Together with the TFSME, this means that banks should not face obstacles to supplying credit to the UK economy and to meeting the needs of businesses and households through temporary disruption.
The FPC and the Prudential Regulation Committee (PRC) will monitor closely the response of banks to these measures as well as the credit conditions faced by UK businesses and households more generally.
PRC issues Supervisory Guidance
The release of the countercyclical capital buffer reinforces the expectations of the FPC and the PRC that all elements of banks’ capital and liquidity buffers can be drawn down as necessary to support the economy through this temporary shock. In addition, the Prudential Regulation Authority (PRA) has today set out its supervisory expectation that banks should not increase dividends or other distributions, such as bonuses, in response to these policy actions.
Major UK banks are well able to withstand severe market disruption. They hold £1 trillion of high-quality liquid assets, enabling them to meet their maturing obligations for many months.
In response to the material fall in government bond yields in recent weeks, the PRC invites requests from insurance companies to use the flexibility in Solvency II regulations to recalculate the transitional measures that smooth the impact of market movements. This will support market functioning.
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The Bank of England has operations in place to make loans to banks in all major currencies on a weekly basis. Banks have pre-positioned collateral with the Bank of England enabling them to borrow around £300 billion through these facilities.
The Bank is coordinating its actions with those of HM Treasury in order to ensure that our initiatives are complementary and that they will, collectively, have maximum impact, consistent with our independent responsibilities. The Bank continues to co-ordinate closely with international counterparts.
The actions announced today by the three policy committees of the Bank of England comprise a comprehensive and timely package to allow UK businesses and households to bridge a temporarily difficult period and thereby to mitigate any longer-lasting effects of Covid-19 on jobs, growth and the UK economy.
The Bank will take all further necessary steps to support the UK economy and financial system, consistent with its statutory responsibilities.
The minutes of the special MPC meeting ending on 10 March will be published at 12 noon on 13 March 2020. The next regularly scheduled MPC meeting will end on 25 March 2020, with the minutes of that meeting published on 26 March. The record of the FPC meeting ending on 9 March and the next regularly scheduled meeting on 19 March will be published together at 9.30 am on 24 March 2020.
Tiny hands…no package.