Monday, October 5, 2009

At last! Negative quantitative easing!

Banking row looms as FSA tightens liquidity rules

As Prof WIllem Buiter explained, QE is a smokescreen, all that happens is that banks "sell" gilts to the BoE and are credited with a balance with the BoE. The FSA, in its infinite wisdom is now going to reverse that, banks will have to buy back those very same government bonds, and as their most easily accessible form of cash is their balances with the BoE, that is what they will use up first. The article reckons this will reduce the amount that banks can lend (which is theoretically possible, but as QE did not increase the amount that they lent, there's no automatic reason to assume that negative QE will reduce it). It's a pity that nobody seems to understand the difference between "assets" and "liabilities" any more (I avoid the word "reserves" because that can refer to either).

Posted by mark wadsworth @ 02:18 PM (2027 views)
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7 thoughts on “At last! Negative quantitative easing!

  • This bit looks interesting – “the FSA will not enforce its new requirements until it is certain the recession is over and it could take “several years” for the rules to be fully implemented”

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  • mark wadsworth – totally agree. You can understand them trying to keep the party going bearing in mind the salaries and perks.

    You might be interested in the petition running on the No 10 site titled “We the undersigned petition the Prime Minister to exercise proper control over the senior management of the Financial Services Authority”

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  • mark wadsworth says:

    Jack C, don’t forget that The Tories have threatened to scrap the FSA, so the FSA have to come up with some reasons to be kept alive long into the future, for example overseeing the process whereby a future Tory government can offload its government bonds.

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  • I see the sequence/timing of the posts is mixed up again !

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  • Propose new regulations now to be implemented in ten years when the recesion will be over and knowing FSA will no longer exist next year it is a a bit of electoral material.

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  • stillthinking says:

    This doesn’t affect their losses though.

    I remember about a year or two ago, there was a comment from some UK banker regarding their refusal to extend loans, and he said, reasonably enough, that they had the money but in the wrong kind of account i.e. it was in immediate access not not-long term savings with withdrawal restrictions. There is a big distinction between the two accounts as far as banks are concerned, one can be safely leveraged into loans and the other immediate access cannot. The US had some “sweeping” arrangement where they were allowed to count immediate access funds as though they were long term funds available to the bank and the UK has something similar.
    If you make a leap of faith that securitised debt is completely safe and liquid, as they have, then you can use checking account money to purchase that debt with associated profit. We now see that securitised debt doesn’t hold its value and and isn’t liquid leading to complete loss of confidence in banks to return the money. Also, buying securitised debt is lending by a proper name with funds that are not available for the term of the loan.
    However, buying gilts is also lending so you just move the liquidity and risk to government debt instead. The same government debt in a bubble with low yields being price supported by future tax revenue… either way the banks are making long term loans with funds that are only available short term i.e. that they don’t have the money for. The problem, which doesn’t go away, comes back to insufficient funding to support their current level of borrowing, so either they reduce lending or they increase their long-term funding.
    This is also why the best outcome in 2007 would have been to just honoured the 50K deposit insurance across the banks and moved the rest into bank equity, instead of the pretense of honouring huge banking obligations with a shrinking economy plus a drastic forced curtailment of lending.
    The FSA are proposing mass sales of securitised debt while mandating purchases of government debt. The government has forced pension funds and insurers to buy their debt for a long time already, so now the money sitting in current accounts is also to be used, at a time when the only supportive price pressure for gilts comes from the BoE QE programme. What happens for example if the BoE don’t extend QE because inflationary pressures build and the price falls? Do the banks then suffer further losses at the hands of the government?

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  • #4

    You can make the argument both ways. If the liquidity of banks is secure, then mortgage lending is easier. However if they make less profit from their liquidity reserves, then they will be less inclined to risk.

    Typical economics answer; two contradictory answers.

    Since this regulation affects all banks, all banks profits will go down at the same time. However confidence in banking reserves goes up. So I don’t see this stressing the stock holders either.

    Who’s to say what will happen? I don’t think it will have a drastic effect on mortgage availability. Lets face it. This is what they should have been doing with those liquidity reserves all along. By their nature, these investments are totally risk averse, and as such should not generate any real return.

    In fact the idiot that tried to make them a profit center should be fired.

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