Bank primes money pump
The 鈥檚 stiff upper lip has relaxed just a fraction. For the first time since the global financial system seized up more than a month ago, it has taken what looks awfully like evasive action.
It is endeavouring to relieve the upward pressure on short-term interest rates that has been caused by the global squeeze on credit by doing two related things 鈥 whose combined effect represents a commitment to pump up to 拢5.4bn of short term loans into the banking system.
That said, the Bank is insistent that it is acting within published guidelines: it has not rewritten its own rules about its role in the money markets.
Or to put it another way, it is still drawing a distinction between its own behaviour and that of the US and Eurozone central banks 鈥 both of which have behaved in a more exceptional way.
For me, however, that is a nice distinction. What it has announced today is hardly trivial. It is probably more significant than tomorrow鈥檚 monthly statement by the Bank鈥檚 on the base lending rate.
Having injected liquidity into the system today, I would be staggered if the MPC did anything but keep the base rate on hold.
What exactly has the Bank done?
First, it has agreed that banks can deposit 拢17.6bn in the coming month at the Bank of England 鈥 a rise of 6 per cent or just under 拢1bn from the reserve target of the past month.
Banks can draw on these facilities as and when they need cash in the coming days.
That may not sound terribly significant, unless you are versed in the arcana of central banking. But the point is that the Bank of England actually provides these reserves to the banks via loans to them backed by gilts and other collateral.
An increase in the reserve requirement is in effect an increase in lending to banks at the base lending rate of 5.75 per cent.
It represents a significant increase in the liquidity of the banking system 鈥 and relieves pressure on the banks to borrow at the higher penalty rate of 6.75 per cent.
Second, if that isn鈥檛 enough to bring down overnight borrowing rates, the Bank will supply up to a further 25 per cent of the aggregate reserves target in its so-called open market operation next Thursday.
Or to put it another way, it is prepared to lend banks a further 拢4.4bn at the base lending rate.
In crude terms, the Bank is basically providing additional cheap finance to the banks to meet any short term requirements they might face.
The Bank鈥檚 explicit aim is to bring down the rates which banks charge each other for overnight borrowing to something closer to the bank base rate.
It insists its actions are not specifically aimed at bringing down the three-month rate for loans between banks, which has been at more than one percentage point above the base rate 鈥 much more than usual.
That said, any increase in liquidity in the banking system should 鈥 in theory 鈥 have some effect on longer term rates such as three-month Libor.
The market for three-month money is not totally discrete from the market for overnight money. So what the Bank has done may ameliorate the horrible conditions in money markets.
But it won鈥檛 bring the crisis to an end. On its own, these measures won鈥檛 suddenly persuade banks to start lending to each other and other financial institutions with the alacrity of yore.
I'm 
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But surely it is not the BoE's job to sort out the mess. The BoE's job is to keep the system going while the banks sort their own mess out.
If a major high street bank might go under then it would have to do more, but the BoE does not exist to bail out city money managers who got carried away with lending the same money to themselves time and time again.
If this means the name of another ancient merchant bank fades, then so be it. If you cannot lose then there should be no reward for winning!
The banks are the prodigal son in this parable of greed. They have blown their half of the inheritance from the Bank Of England whilst the taxpayer has carried on working hard for a living. Now they come home tail bewteen their legs only to be bailed out with half of the remaining half.
The potential problem of global debt is not known at present.
In those circumstances how can any financal institution function effectively to limit the problem?
There appears to be no solution.
To me, there is no distinction between what the BoE and ECB did recently to increase credit liquidity except for the amounts involved.
What the BoE is saying is that banks can deposit more with them but what they effectively mean is that banks can borrow more from them at the base rate.
What is this need to justify their actions? Is it for self respect tommorrow morning :)
The banks are bust. They've all checked their books and found that they have more debt than money.
The value of all tangible assets was based on the bank's willingness to lend, with that gone there is no floor to asset valuations, be it shares, property or the mythical CDO.
However it is packaged, it is obvious that the Bank of England had little alternative but to follow the path set by the FED and the ECB whether it liked it or not.
I suspect there are two main uncertainties at the moment which are to some extent inter-related.
Firstly - how much debt is going to go bad in the short to medium term. Secondly what is going to be the level of retrenchment that comes out of Main Boardrooms over the next 3 months.
"What the BoE is saying is that banks can deposit more with them but what they effectively mean is that banks can borrow more from them at the base rate."
By holding more on reserve at the BOE, the banks then have far more cash to lend out through the fractional reserve system.
Reserve ratios in the UK average about 3%. It means they're permitted to loan out about 30 times what they hold on reserve. If what they hold on reserve increased by 6%, then what they're permitted to lend also increased by 6%.
i.e. the BOE just inflated the money supply by 6%. I'm sure we'll see the effects sooner or later.
I feel the BOE has made a mistake. At the moment US subprime and some poor commercial lending is at fault. But the real trouble is just starting. Housing inflation at 0.4% for july means housing inflation is falling quickly and is likely to go negative before the end of the year. Meanwhile interest rates are on the way up as are all our other daily expenses. This mix together with tightening multiples and proof of income being required means the UK housing market is heading a long way down.
So what is the BOE gong to do when 10-20% of the self cert mortgages default. We don't have the money to pay for it.
Markets work because the inefficient or corrupt fall down. If the BOE is going to protect the banks from their own foolishness and corruption (because that is what self-cert lending to employed people is) why not the badly run corner shop. And what about my pension. And am I just about to lose my job because the banks are corrupt.
Time for Mr Plod to go knocking on some marble porticos or are we just going to accept it's one law for the small man and another for the wealthy.
If the government and BOE let these crooks get away with it the message will be - "strike" and get every penny you can.
"Peston the 大象传媒" hit a raw nerve with me when his blog mentioned overnight lending. Monies from my rather large Paypal account are taking up to seven days to get into my "Big five" bank account. Forget week-ends as an excuse because 80% of my money travels thru' the system on a week-end yet only 20% takes more than 5 days. When one realises that in law there is a presumption of fact that the customer suffers loss should his credit reputation be damaged/injured by for instance a bounced cheque or refused Direct Debit and that the banks in law have only a reasonable time which can be a matter of a couple of hours to get the money into the client's account once it is in the receiving banks system then one ponders on just what sort of cash strapped position these banks really are in and what measures they are willing to take no matter who suffers just to alleviate this position. Then to top it all, they charge you for the bounced cheque. Sounds "iffy" to me.
I seem to recall much the same furore before over loans to third world Governments. When the dust cleared it was discovered that most of the bad debt had been written off over a period of time and there was little residual debt to cover.
At the present time we do not know
1 how much debt will go bad,
2 how much has been written off already nor
3 what part of the massive bank profits will be/has been involved in covering the debt.
A credit squeeze is not a bad thing of itself although it may well be politically inexpedient for a certain Prime Minister whose strategy as Chancellor may be exposed as rather poor!
Surely this action and the liquidity created will not affect banks willingness to slacken consumer credit, and so will only serve to try to kickstart the private equity and CDO trade again. And we have already seen that the banks themselves are wary of that, so what will this achieve?
Now that central banks have been adding billions of credit to alleviate negative collateral
caused by monumental lack of fiscal responsibility by local banks and other lending institutions, who provided the central banks credit? -
taxpayers! - for money cannot be printed in excess of normal requirements to cover these financial problems since inflation would then be out of control.
it is nervous time for everybody - from borrower to lander to regulators to investors and I am sure in end equation is going to be change with balance of power falling in regulators hand i.e. more politics , bureaucracy and helpless investors.
What I find unbelievable is that RBS and Barclays are still going after ABN. Or are they?
it is nervous time for everybody - from borrower to lander to regulators to investors and I am sure in end equation is going to be change with balance of power falling in regulators hand i.e. more politics , bureaucracy and helpless investors.
Now that central banks have been adding billions of credit to alleviate negative collateral
caused by monumental lack of fiscal responsibility by local banks and other lending institutions, who provided the central banks credit? -
taxpayers! - for money cannot be printed in excess of normal requirements to cover these financial problems since inflation would then be out of control.
Considering the fact that it was easy credit and excessive liquidity that got us into this problem, exactly how is the BoE's action going to help?
The free market system is based upon Darwinian principles - namely that there are limited resources, and that foolish decisions are punished. In this move the BoE has essentially increased resources (by creating money), and protected banks from their own foolish choices.
On the assumption that they can't afford to do this indefinitely, all they are doing is further inflating the bubble, ensuring a more painful bang when it bursts.
Well the BoE has just inflated the money supply yet again, so further fueling inflation and making the task of saving for your future or even meeting the bills ever more difficult.
The only way out of this mess is an end to fiat money and a return to gold backed currency. Either way, the economy is doomed to a very long down turn and your pensions will be further ravaged thanks to that silly man Gordon Brown.
Bruce #16, this would normally be the case, however liquidity problems like these are a result withdrawal of credit from the system, in itself a contraction of money at the given level. By supplying credit, the bank is merely accommodating this withdrawal temporarily, countering the effect it has.
If you think of the physical cash equivalent, if everyone tried to withdraw their cash from the banks tomorrow, there wouldn't be enough physical notes to go around, which would result in rapid deflation (increase in the value of the physical cash). By printing tons of notes and lending them to the banks so they can cover the deposits, the central bank is simply accommodating the economy's sudden shift in preference from one type of money (deposits) to another (cash) in order to counter the deflation it would cause. What's actually happening is that people shift their deposit from banks (which can fall over) to the central bank (as physical cash), while the central bank "deposits" this money back with the banks in form of liquidity loans, to keep the system going so an orderly solution can be found.
#15 Free Market Research Tool suggests it's a nervous time for everybody..
Not for me.. In fact I'm quietly giggling my socks off because I really don't see how the banks et al are going to talk themselves out of this one. And - much more importantly I really don't see how Gordon Brown can continue trumpeting the success of the City..
This is important because it might - I stress might - actually kick off a change in direction that includes the funny old idea that as Germany has found, making lots of high value things is actually a good thing to do..
Re the RBS/ABN post. As Gordon Gekko said 'Never get emotional about stock ; )
Maybe the time and money already invested, along with an opportunity to get one up on a rival would distract from the differing climate of the bid period to now. AOL/Time Warner seemed a good deal at the time too!
Why ask boe to save the banker? Why not let the bank show how much they have lost? Then the boe decide which to buy over and let people that is capable to manage for a few years before selling to the market and all people to have a fair share of wealth. This is a chance to balance the wealth ditribution among all people.
There is a delicious irony amidst all the self-righteousness being displayed here and elsewhere at the moment - well, actually there are two:
1) RP and many other UK commentators mocked the Fed and ECB for their credit expansions, while praising the BoE for not doing so - well, except that it was!
2) The BoE's supposed "independence" rather overlooks the fact that all but 3 members of the MPC are appointed by the Treasury (headed until very recently by one G. Brown) and it has run a lax monetary policy in return. This has led to a credit expansion, whereby many people on these boards have taken out mortgages in the expectation of high returns on non-productive assets at low financing costs. Seems that those criticising the bankers for not thinking about asset-based products would do no better, but having blamed these bankers for the current turmoil, whom will they blame when the UK property market crashes?
That said, I expect we will hear the usual excuses from the supposedly "experienced" bankers and lenders, probably the same lot, who ramped dot.coms just a few years ago. RP's Justice blog had one fatal flaw - you cannot criminalise people for simple incompetence. The current prison overcrowding would pale into significance if we could!
I have lost count of the nuber of times I have bored people to death in the pub or round the table stating what is obvious to anyone who can understand simple maths: you cannot create the apparent wealth the Hedge Funds seemed to be making out of nothing. They have stolen tomorrow's wealth because inflation will now be stoked by the relaxed fiscal policies which will have to be implemented otherwise at least one major bank would collapse and we cannot/will not allow this. Stand by to see the real future values of pensions/ assets collapse to account for the ridiculous pay and city bonuses that have been trousered and spent.
Peter wrote鈥︹︹.鈥漈he only way out of this mess is an end to fiat money and a return to gold backed currency. Either way, the economy is doomed to a very long down turn and your pensions will be further ravaged thanks to that silly man Gordon Brown鈥濃︹︹.
Quite right too Peter, Gold is putting on a spurt at the moment and is over 500 Euros per ounce today. People are getting smarter. As the banks don鈥檛 trust each other with their loans why should we?
Don鈥檛 wait for bankers or governments to recommend buying gold, it aint鈥檛 going to happen.
This 'cash injection' into the system will give the banks more opportunities to make even more stupid decisions, and therefore further inflate the bubble causing even more problems to the British economy. Put a stop to this before it is too late.
They should get the central London fat-cats to cough up cash out of their recent record bonusses receipts. Time to take the rough with the smooth.
So Mr King and Co. have bowed to the political pressure of the ignorant and effectively prolonged the pain and probably increased it. When the markets are saying they need an interest rate of nearly seven percent the MPC must need their eyesight and hearing looked at (which I do not believe). A bail out with the objective of stopping forclosures on overburdened mortgage payers is not the answer.This has got to happen sooner or later and it has been caused by political meddling. When the MPC cut rates in 2006 instead of increasing them they contributed to the current debacle.When the BOE is given true independence from political interference we may see some sensible policies.
By printing tons of notes and lending them to the banks so they can cover the deposits, the central bank is simply accommodating the economy's sudden shift in preference from one type of money (deposits) to another (cash) in order to counter the deflation it would cause.
Actually what they're doing is giving bankers money at the expense of the ordinary person in the street. They are transferring wealth from the poor to the rich.
Why are we all so suprised that the taxpayer will have to bail out the excesses of the elites. This has been happening for centuries in Britain and Europe, the poor subsidising the excesses of the nobility. Just because we have TV,s and cars now does not mean we are in any better position relative to these financial and political elites. It serves their purposes to allow such a standard of living at this point in history.
The average worker is as productive as humanly possible and is chasing an ever elusive dream of satisfying the basic standards of living, a house and a modest stable life for their children.The cost of living rockets and increases the stress on average people attempting to keep up. This functions to line the pockets of the tax man, banks, real estate agents and the City who profit from our despiration. Stoking inflation, a hidden tax, functions to serve their ends further so why should we expect anyhting else. We still live in feudal times. Ps Im not a communist lefty either just a realist and I have been profiting from this through investment. However I dont approve of it I just had to adapt to survive.
It seems to me that the Japanese and the Chinese may have stopped buying or perhaps are selling US T bonds. That appears to have forced the price down and yields up. T bond yields are used in mortgage rate calculations and hence mortgage costs have risen, bringing about the Sub Prime crisis.
Next it will be re-pricing of assets generally as both the risk free rate of interest and the risk premia will rise. Expect further large scale write offs from the banks as their investments in highly geared/leveraged private equity companies/deals will worthless as they go bust. Then we will see an enormous credit crunch.
The first signs of all this creeping into the real economy are there and written large.
Falling house prices in the US, and thats before the sub -prime crisis, and increasing unemployment.
Next it will be slowing of consumer spending, (as people worry about their employment and spending from equity release falls) then possibly recession.
The way out?
Where is the cash? In Asia. If they spend/consume more, invest less,and print money, demand will be restored.
#29, this fairly ignorant view point is echoed by a number of people here, who seem to believe that central banks are using tax payers money to cover other banks losses. Unfortunately I think much of this is due to Peston's deliberate use of colourful language to whip up the moral indignation, without properly explaining what is going on.
1. Central banks don't use tax payers money. Central banks have their own money. They can make it out of thin air, and they can cash in reserves.
2. The injection of liquidity is not *given* to the banks, it is *lent* to them. Hence it does NOT bail them out from losses. No amount of short term borrowing is going to make your subprime US house owner pay his loan. The shareholders of the bank (or whoever is holding the dogdy debt) are stuck with the losses. If it turns out to be insolvent, that needs to be addressed later.
3. An injection of liquidity does not necessarily cause inflation. The liquidity problems are due to a shortfall of liquid assets/cash, because there has been a shift in preference from less liquid towards more liquid money (hoarding of cash). The injection is made precisely to accommodate the (temporary) shift.
4. The liquidity crisis is not primarily caused by the bad loans, ie. it is not caused by money that has been lost. It is caused by investors and banks not being able to verify who might get into trouble next, so they withdraw lending in the mean time. Withdrawing credit is the same thing as hoarding cash. When everyone starts hoarding cash, there is a shortage. It is simply the central banks job to make sure there is enough cash in circulation. If they don't, a shortage of cash turns into a self-fulfilling spiralling bank crisis. Shortage leads to more hoarding, leads to more shortage. If left to run its course, you're looking at something like the Great Depression (go read about it). Not caused by some bad loans but the central banks failure to stop the panic.
This kind of central bank intervention SIMPLY MAKES SURE THAT NO ONE RUNS OUT OF CASH UNTIL THE PICTURE IS CLEARER. They are only refilling the cash machine, not giving out cash. And it's not your cash, it's theirs.
The BoE's role is like that of the GP with a patient who is a heavy smoker and drinker. First you resuscitate the profligate patient, then you put him on a strict regime and urge him to change his lifestyle. But tough love, letting him die, is hardly the way to solve the present market turmoil.
here's the credit crunch done to Bohemian Rhapsody...
Is this the real price?
Is this just fantasy?
Financial landslide
No escape from reality
Open your eyes
And look at your buys and see.
I'm now a poor boy
High-yielding casualty
Because I bought it high, watched it blow Rating high, value low Any way the Fed goes Doesn't really matter to me, to me
Mama - just killed my fund
Quoted CDO's instead
Pulled the trigger, now it's dead
Mama - I had just begun
These CDO's have blown it all away
Mama - oooh
I still wanna buy
I sometimes wish I'd never left Goldman at all.
I see a little silhouette of a FedBernanke! Bernanke! Can you save the whole market?
Monolines and munis - very very frightening me!
Super senior, super seniorSuper senior CDO - magnifico
I'm long of subprime, nobody loves me
He's long of subprime CDO fantasy
Spare the margin call you monstrous PB!
Easy come easy go, will you let me go?
Peloton! No - we will not let you go - let him go Peloton! We will notlet you go - let him go Peloton! We will not let you go - let me go Will not letyou go- let me go (never) Never let you go - let me go Never let me go - ooo No, no, no, no, no, no, no, -
Oh mama mia, mama mia, mama mia let me go S&P had the devil put asidefor me For me, for me, for me
So you think you can fund me and spit in my eye?
And then margin call me and leave me to die Oh PB - can't do this to me PB
Justgotta get out - just gotta get right outta here
Ooh yeah, ooh yeahNo price really matters
No liquidityNothing really matters - no price really matters to me
Any way the Fed goes.....