Buying bonds cuts state debt- though so far they will not admit it

Japan, the Eurozone, the USA and the UK have all run programmes to buy up state debts through Central Bank action. In each case they buy the bond, but keep it, pretending that the state still owes the money. They find a way of accounting for the fact that they pay the interest due on the bond to themselves – it goes from one government account to another, as the Central Bank is  a creature of the state. It may have a little more meaning in the case of the ECB, buying up the debts of a range of countries. When the bond falls due for repayment they repay themselves, and normally reinvest the money in another bond they buy from the private sector.

In the case of Japan the purchase programmes have been particularly large and long lasting. There with state debt at a massive 230% of GDP they have avoided a problem meeting the interest costs of the debt by the twin effects of QE. Rates are now tiny or negative on new debts incurred. More than one third of the total state debt is now owned by the state itself through the Central Bank. The Japanese now have various options. They do not seem ready to simply announce they are cancelling all the debt they  owe themselves, as they could do. They might find a half way house. They could, for example, convert all the state debt they own into irredeemable or ultra long non interest bearing debt, which is almost the same thing as cancelling it though it  might look more prudent to some.

In the Euro area the latest substantial programme is running at Euro 80 billion a month, mainly government bonds. The authorities already own Euro 875bn of bonds. In the UK the Bank has decided to add £60bn to the stock of £375 bn they already own, out of a total state debt of £1.7tn. The US owns 12.8% of the stock of US Treasury bonds issued. All this means the actual indebtedness of these advanced countries is lower than the gross figures. The stress of having so much debt is doubly reduced,  by the very low interest rates they now have to pay people and institutions that do lend them money, and by the fact that they owe so much to themselves.

So far this process has not triggered worrying domestic inflations in the way you might expect, thanks to the weak state of many commercial banks over the banking crisis, and the fiercer controls against extra lending on the back of the money in circulation. There have been some inflationary pressures from weak currencies, which could be  brought on by relatively looser money and higher rates of QE. All the main countries in recent years seem to have favoured some decline in their currency, or have been unwilling to do anything to stop it. They cannot all devalue at the same time against each other. It will be interesting to see which if any of these authorities makes the next move in these unusual changes to the cost and ownership of state debts.

This entry was posted in Uncategorized. Bookmark the permalink. Both comments and trackbacks are currently closed.

57 Comments

  1. Posted August 17, 2016 at 5:35 am | Permalink

    Is this a case of robbing, Peter (the people) to pay, Paul (government / state largess) ? Seems like it.

    So where will this all end ? Is money really now that worthless ? I ask these questions as my bartering skills are pretty poor.

    • Posted August 17, 2016 at 8:46 am | Permalink

      The way Comical Mark Carney is going, with rate cuts devaluing Sterling and inflation on the back of imported goods, it won’t be long before the concept of money is completely trashed. Mark Carney should resign along with the whole Monetary Policy Committee and be replaced with people who will push rates up, let the economy take a hit, and show us the real state of affairs. After nine years of fake interest rates no-one knows what the real economy looks like. Its time for a big correction, time to swallow the bitter medicine, so we can get back to the real world and rescue saving (which is investment) and the very concept of money.

    • Posted August 17, 2016 at 10:05 am | Permalink

      Virtually the whole western fiat currency system has been debauched in my view.Between May and December last year I switched 40% of my pension assets into gold and gold mining,got rid of all my FTSE-100 stocks(before the General Election) and moved into currencies that would benefit from a recovery in the oil price-Norwegian Kr and Russian Ruble.I can’t think of a single major western government whose bonds I would want to own.

      • Posted August 18, 2016 at 10:27 am | Permalink

        A wise move, Mitchel. In a world of fiat currencies, every portfolio should contain gold to hedge against the inevitable depreciations of currency by governments.

        It is worth waiting to the end of the central banks’ great QE experiment before judgement is made. The markets have been assuming that it will be relatively painless for the central banks to normalise interest rates. But when the Fed in December raised rates by even one quarter of one per cent it caused a panic sell-off.

        In my opinion, BREXIT has been used as another excuse to launch another round of QE to boost a faltering world economy. If not BREXIT, then the prospect of a possible Trump presidency would have been used to frighten the horses.

        I am waiting for the day when the bond markets take the printing press away from governments. That day will surely come and I am somewhat surprised it is not here already.

  2. Posted August 17, 2016 at 5:38 am | Permalink

    Indeed it will be interesting to see.

    I cannot imagine that all this pointless, choreographed, slight of hand by the governments does anything positive for the real economy. It must surely harm the real economy and create yet more pointless costs and pointless jobs for taxpayers to fund.

    • Posted August 17, 2016 at 6:32 am | Permalink

      I see that the rail unions are campaigning with the slogan “Cut fares not staff” needless to say they do not say who will pay for it all. The magic money tree or tax payers one assumes. Corbyn’s economic rail nationalisation agenda is clearly bonkers and very dangerous, but still nothing positive at all from Mrs May government and she is in office.

      Another very misguided announcement today on tax avoidance:- Britain set out plans to punish financial advisers who tell their clients how to avoid paying tax, including hefty fines designed to target what it called the “supply chain of tax avoidance”. All the signs are that T May is just going to be a continuation of the dir Cameron and Osborne’s lefty agenda. Are May and Hammond ever going to get a grip?

      They need to change & simplify the tax system not threaten advisers with this absurd proposal. They should also abolish General Anti Abuse Rule which does far more harm than good discouraging investment as it does by its vague uncertainty. It is an, after the event, Mugabe tax you owe what we say mate. Not the sort of tax system that any sensible democracy should run. Try cutting the bloated state sector for a change.

    • Posted August 17, 2016 at 8:59 am | Permalink

      The other thing that needs scrapping by Hammond/May is the new HMRC quarterly reporting agenda. Yet another obstacle to put off job creators and small businesses.

      Brent Hoberman is spot on in the Times today:- “Tax man treats start-ups like criminals”. Indeed they do and massive harm it does. They cannot even bother to answer the phones to them either, when they have a query about their absurdly complex systems.

      • Posted August 17, 2016 at 12:03 pm | Permalink

        Lifelogic

        I agree totally.

        Its my experience as a business owner that the Conservatives as central government, regional government and local government hate small business with a vengeance . They do everything to try to prevent start ups, and fledgling business, they heap regulation upon regulation and tax upon tax.. I’ve just taken on a new building that needs refurbishment the first letter I got was from the council asking for a business rate of £22000 pa and telling me I can’t use the building as I will need planning consent , I havent told them what I intend to do with it yet. I was just digesting that when I got a bill from the BID with a levy of a further 3% of the rates. We are still dealing with auto enrolment when the living wage pops up quickly followed by quarterly tax reporting. Its hardly worth bothering with a new business venture. I’d be better off retiring to Florida and buying another Ferrari

        • Posted August 17, 2016 at 4:38 pm | Permalink

          libertarian

          Problem is most Governments think self employed people are not to be trusted at all, probably because they are free thinkers and are thus difficult to control (unlike people who are on PAYE), even though most small businesses are started by people who have tried self employment first.

          Many Politicians (our host excepted) seem to think that many are tax cheats (pot calling the kettle black here given the expenses scandal)
          and thus need more and more control put on them and their activities.

          All such a shame really given small businesses are the very lifeblood of employment and the economy.

          • Posted August 19, 2016 at 7:15 am | Permalink

            The next attack on us is quarterly accounts reporting to HMRC
            If introduced as currently reported it will add greatly to the paperwork burden
            And increase accountancy costs

            PS
            Libertarian
            Agreed. I spent nearly two years arguing just for change of use planning from light industrial to warehouse use
            Gave up
            Sold the freehold
            Never started a business which would have employed up to 50

  3. Posted August 17, 2016 at 6:27 am | Permalink

    Seems much like false accounting to me. If carried on by individuals or private companies would any laws have been broken?

    • Posted August 17, 2016 at 9:05 am | Permalink

      Indeed. But the markets see through it anyway. It is just a waste of time and taxpayers money.

  4. Posted August 17, 2016 at 6:29 am | Permalink

    It would seem to me , a mere observer of this monetary debasement, that the only action should be the acquisition of real assets. There is little point in investing in monetary schemes such as pensions because they become worthless on the fringe of deliberate government policy. Property, for which demand exceeds supply would seem an obvious choice. Pity we cannot all be allowed to acquire some of this fantasy currency with which to buy it.

  5. Posted August 17, 2016 at 6:37 am | Permalink

    I am an economic ignoramus but even I can see that what you describe is a veritable house of cards that must, surely, one way or another collapse upon us all.

    • Posted August 17, 2016 at 1:21 pm | Permalink

      It would be more likely to collapse if it wasn’t that every major 1st world economy is doing it. If one such nation was to collapse, I imagine it would present as a collapse in currency.

      But then again, perhaps the only way they can keep the asset price ponzi scheme going in the long term is to move back to fixed exchange rates – so that they can micro manage interest rates throughout the economy down to tiny fractions of one per cent.

  6. Posted August 17, 2016 at 6:38 am | Permalink

    Nope ,sorry John ,still don’t quite get how that works , not your explanation, which is simple and straightforward , but a government buying its own debt which could be cancelled anyway,is all a bit surreal . You surely can’t be endebted to yourself.

    • Posted August 18, 2016 at 7:25 am | Permalink

      The real name for this malarky is “Helicopter Money”

      Read about John Law and the hyperinflations in France, culminating in 1790, to see what happens next.

      They are deluding themselves. Hyperinflation will arrive. In the meantime they steal like there’s no tomorrow, because maybe there isn’t.

  7. Posted August 17, 2016 at 7:01 am | Permalink

    A race to the bottom. People will increasingly invest in more tangible goods as government debases the currencies.
    Gold, property or commodities are all preferable to the micky mouse currencies.
    When are you going to issue infrastructure bonds so we can benefit rather than overseas governments.

  8. Posted August 17, 2016 at 7:08 am | Permalink

    Interesting article.

  9. Posted August 17, 2016 at 7:23 am | Permalink

    Yes, having been bought up that for every debit there is a corresponding credit, and spent much of my time looking at sets of accounts, I would love to see their’s. Cancel the debt makes sense, the chancellor has the interest saved to spend elsewhere but where do you allocate the write down because presumably these bonds would have been bought at well over par. Obviously a greater problem for the ECB where there is also real chance of Greek default. No wonder they are resisting the haircut that the IMF is pushing for.

    • Posted August 17, 2016 at 9:44 am | Permalink

      It’s complicated because the Treasury and the Bank are both arms of the UK state but while the Bank is wholly owned by Treasury the two have separate accounts, beyond which the gilts purchases are actually made by a wholly owned subsidiary of the Bank which has its own accounts.

      http://www.bankofengland.co.uk/markets/Pages/apf/default.aspx

      “APF transactions are undertaken by a subsidiary company of the Bank of England – the Bank of England Asset Purchase Facility Fund Limited (BEAPFF). BEAPFF borrows from the Bank to pay for the assets it purchases (under the Gilts and Corporate Bond Purchases Schemes) and the loans it makes under the Term Funding Scheme. This loan to BEAPFF appears on the Bank’s balance sheet as an asset. The corresponding liability is the increase in central bank reserves which have been created to fund the loan to BEAPFF.”

      If the gilts held by the BEAPFF were cancelled then it would be unable to repay the loan from the Bank, so that asset on the Bank’s balance sheet would be worthless, but the Bank would still have the corresponding liability of the increase in central bank reserves; therefore it would have negative net assets, which I strongly suspect would be illegal under its present charter.

      That’s unless the Treasury kept its promise to indemnify the Bank and the APF from “any losses arising out of or in connection with the facility”, in which case the Treasury would have to stump up somewhere in the region of £400 billion, money which it does not have lying around spare and which it would have to borrow from (almost entirely private) investors by selling them new gilts, which gilts the Bank’s BEAPFF could then buy from the investors using a loan from the Bank, and so they would be back to where they are now …

      The key here is that while Treasury might be able to persuade/coerce the Bank into agreeing to the cancellation of the gilts held by the BEAPFF the Treasury could not similarly persuade/coerce those holding the new money which was used to buy the gilts into agreeing to its cancellation, especially those outside the UK.

      Reply The simple point is the state owns the asset and the liability!

      • Posted August 20, 2016 at 6:42 am | Permalink

        Not the new money which has been created and put into circulation, that is an asset for the non-state actors who hold it but a liability for the state.

  10. Posted August 17, 2016 at 7:39 am | Permalink

    It almost seems like a juggler. 3 balls….4 balls….5 balls….6 balls….more balls….oh balls!

  11. Posted August 17, 2016 at 7:44 am | Permalink

    “They do not seem ready to simply announce they are cancelling all the debt they owe themselves, as they could do.”

    They, and we, would probably have to pass legislation to permit the central bank to run with negative net assets, because cancelling the government bonds does not cancel the new money which was created to purchase the bonds.

    That money has gone into circulation and is now in the hands of a multitude of private bodies and individuals around the country and the rest of the world, and while that is the case it cannot simply be cancelled by any feasible or ethical means; it can be recovered through taxation or by sales of other state assets, and then cancelled, but it cannot be cancelled by the state until it is back in the hands of the state.

    And as that money also represents state debt this form of QE does not actually reduce state debt, it just transfers some of it from private to public ownership, and the part which goes into public ownership is counterbalanced by the new money issued to buy it.

    All this would a lot clearer if the central bank did actually print new banknotes to buy the government bonds; then it would be easier to track the new money as it moved from the central bank to the treasury and then out into the wide world, and those who held a stock of that money would not take kindly to being told that it was now worthless.

  12. Posted August 17, 2016 at 8:20 am | Permalink

    On previous occasions over the past seven years I pointed out that the Treasury had never asked MPs to expressly authorise any episode of QE.

    In this case the Treasury has expressly authorised the Bank, through this letter from the Chancellor to the Governor dated August 4th:

    http://www.bankofengland.co.uk/monetarypolicy/Documents/pdf/chancellorletter040816apf.pdf

    “I am therefore writing to authorise an increase of £70 billion in the amount of assets that
    the APF is authorised to purchase financed through the issuance of central bank reserves,
    of which £10 billion can be eligible private sector assets.”

    But once again as far as I am aware the Treasury has not asked for express authorisation from MPs, and MPs don’t seem to be worried that it is outside their control.

    There was a fuss some time ago when the Lords seemed to interfering with the financial privilege of the Commons over changes to tax credits, but the Commons don’t seem to be concerned to defend their financial privilege from the government.

    Yes, I know that if enough MPs did object to what the Treasury was doing then they could act against it, but the fact is that once again the government is providing itself with large sums of money without the express approval of MPs.

    Incidentally a paragraph near the end of that letter from Hammond:

    “I confirm that the government will continue to indemnify the Bank and the APF from any losses arising out of or in connection with the facility.”

    explains why the Bank should not proceed without authorisation and also why it would make no sense to simply cancel the gilts it holds leaving it with massive losses.

    Reply Yes, government authorisation is the norm for QE. Once again there was no need to ask Parliament as Parliament clearly agrees with this measure. The Opposition has failed to offer any comment or critique of the policy. It could of course table a motion against the QE any time it wished when Parliament is in session, or ask for Parliament to be recalled etc, but will not do so as it agrees.

    • Posted August 17, 2016 at 5:33 pm | Permalink

      explains why the Bank should not proceed without authorisation and also why it would make no sense to simply cancel the gilts it holds leaving it with massive losses….
      Quite the opposite… The Bank has made billions

      • Posted August 18, 2016 at 9:22 am | Permalink

        Yes, so far with rising gilts prices the Bank has only made profits on its holdings, which profits are being passed back to the Treasury each quarter rather being left to accumulate at the Bank. Here is the relevant letter from Osborne to King dated November 9th 2012:

        https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/194038/chx_letter_091112.pdf

        “Transfer of excess cash from the Asset Purchase Facility to HM Treasury”

        Here is a House of Commons Library Research Briefing:

        http://researchbriefings.parliament.uk/ResearchBriefing/Summary/SN06488

        “This short note provides background on the recent announcement that the Bank of England is to transfer to the Exchequer excess cash held by the Bank as part of its programme of Quantitative Easing (QE).”

        The risk here is that if the value of gilts falls before QE is wound up, as is very likely to happen, then the Bank will need that money back to help make up for its losses; but in any case under the indemnity the bill for the Bank’s losses would be sent to the Treasury, which basically means the taxpayers, and that is why it was deemed necessary for the Treasury to authorise tranches of asset purchases rather than allowing the Bank carte blanche to buy whatever it wanted in whatever volumes it chose.

        Reply They just repay themselves at par! These are all internal accounts and transactions!

  13. Posted August 17, 2016 at 8:41 am | Permalink

    If I want to lend myself money, where do I get the money from to lend to myself?
    and if I charge myself interest, would it be taxed as income? in which case if I charge interest at 0% would it be considered as tax avoidance?

    Or is QE just an enormous scam on posterity?

    Reply The state can create money, you and I cannot

    • Posted August 17, 2016 at 1:02 pm | Permalink

      Not 100% true JR. I can’t forge sterling without risking imprisonment, but I can invent my own currency (see bitcoin for instance) and run with the risk the state bans it.

  14. Posted August 17, 2016 at 8:44 am | Permalink

    Buying debt normally is only practical if there is the surplus income by which to do it. Paying for that which you do not have sufficient funds by conjuring up the means out of thin air is not normally contemplated let alone achieved. Yet somehow governments have found a way to do both and repeatedly so.

    Have they found the way to suspend natural economic forces that are as immutable as those that govern all forces in the universe like gravity? If they have then our future is assured no more poverty everybody will become as rich as Croesus without having to toil or labour. If they have not and only believe they have or more likely using illusion to hide the reality then the future of many is going to be very bleak indeed.

  15. Posted August 17, 2016 at 8:46 am | Permalink

    When the Central Bank swaps government “debt” assets (Gilts etc) back into the “reserves” that bought them originally, it is the same as if the Treasury had never sold them in the first instance. No new “money” (Units of Account: UoC) is spent (printed) in the process. There is no net increase in the fiscal assets in the economy, but the process removed spending power from the private sector; the lost interest payments.

    The Central Bank just moves UoC (Pounds Sterling) from its securities account to the “reserves” account; where they were first put when the Treasury spent them into existence in the private sector economy.

    Japan proves the FIAT currency case in MMT terms. All the 230% debt to GDP number is telling us is that Japanese households save far too much of their disposable income, with their own government and don’t spend it. The Japanese Treasury would do well to just stop issuing “savings certificates” because that is all government debt is in a Fiat currency economy. Q4/2015 the Japanese saved 49%; the UK 5%. BTW, the Japanese Treasury will never run out of Yen to pay the interest on all those saving certificates or redeem them.

    QE does not create inflation. QE turns government savings certificates back into “reserves” at the central bank and a deposit in a customer account at a commercial bank. the two parts are the mirror of each other. The “cash” in the customer account then belongs to the commercial bank and will pay bugger all interest. This will save the commercial bank having to borrow from the wholesale money market at commercial rates of interest. Banks don’t lend “reserves”, they can’t exist outside of the central clearing bank. There is no magic multiplier of reserves that create commercial bank lending

    Commercial banks create deposits (out of thin air) in a customer account (balance sheet liability), in return for a loan agreement (balance sheet asset). If the customer sends his deposit to another make of bank, the “reserve” at the central bank will follow it during clearing. The need for reserves comes last, the bank will borrow from the interbank system if needed. With all this QE action the place is flooded with reserves; hence, this forces the interbank rate to zero %.

    To cut a long story short. A sovereign fiat currency issuing state does not have any debts in its own currency, it does not borrow its own currency from anybody. Gilt securities do not fund any government spending, they are risk free savings certificates for pension funds. It does have real debts, if it is daft enough to borrow in a foreign currency, ask the South Americans.

    The Noble Lie: the government, voluntarily, runs a fully funding scam. It issues, so called debt, to match its deficit spending, it doesn’t have to do this. Also, it voluntarily has to have a cash management system run by the DMO, because it again, voluntarily, does not use an overdraft account at the bank it owns. The “Ways and Means” Treasury overdraft account, has been frozen by politicians for some while now; simply because politicians have to perpetuate “The Noble Lie”.

    Reply It’s not a noble lie. In more normal times the government needs to fund its deficit, otherwise there is too much money in circulation in the commercial banking system which can become inflationary. Issuing gilts is a way of taking money deposits out of the system.

  16. Posted August 17, 2016 at 8:47 am | Permalink

    Interest rates.

    Amazing just a few days after Mr Mark Carney announced a 0.25% reduction in interest rates, Banks are sending out notifications of interest rate cuts to their customers who are savers like confetti..

    No not by the simple 0.25% announced, but by 0.75% and in one case 1.5%,.

    Thanks Mr Carney you have given the Banks the very excuse they wanted to increase their margins overnight.
    Thus at a stroke you have reduced savers ability to spend (to help the economy) especially those who rely upon such returns to boost their pension income.

    I wonder is Mr Carney is going to take those Banks to task as promised if they took advantage of a cut to help themselves ?

    Yet again the finance industry is seen to be treating its customers with contempt.

    Will you be making representations to Mr Carney John, or will us mugs out here have to.

    The excuse given by one Spanish Banks is that because they can now get cheap money from the BOE they do not need customers funds, so no need for them to be competitive.

    Talk about rubbing salt into the wounds.

    • Posted August 17, 2016 at 9:09 pm | Permalink

      Is that what this £60 billion QE is for? To give banks another load of ‘free’ money? . Sounds like funding for lending again, two fingers up at savers. While we are on the subject, why do they think zirp will encourage people to spend thier savings? Surely it will only result in asset bubbles. A Ferrari dino in 2009 was £65,000, now they are £375,000. How is that of benefit to the state? With adequate IH provision hmrc won’t see a penny.

  17. Posted August 17, 2016 at 8:52 am | Permalink

    Writing off government debt would be a disaster and crush demand in the economy.

    Government debt = net private sector savings.

    QE just moves the savings from savings accounts (bonds) at the BoE, to checking accounts (reserves), so “net money” in the economy stays the same.

    Writing off government debt is confiscating people’s savings and totally different to QE. They did it to Greece to reduce their government debt “burden”, and all it did was crush spending, and therefore output, in the economy further.

    Reply I was only discussing cancelling the debt the state owns, not talking about confiscating the money of people who own government bonds!

    • Posted August 17, 2016 at 12:55 pm | Permalink

      I don’t see how “net money” in the economy can stay the same when the Bank is creating new money and indirectly lending it to the Treasury, which then spends almost all of it into the economy. If only we were relying just on physical money and the Bank was actually printing up new banknotes then this would be clearer.

      In fact there has been an increase in the value of banknotes and coins in circulation, but according to Sky News that could be because people have been hoarding them as a precaution against the coming economic and financial catastrophe.

      http://news.sky.com/story/more-people-keeping-cash-outside-banks-10521617

      “Households may have started to hoard their cash, with new figures showing that the amount of money being kept outside Britain’s banking system is now rising at the fastest rate since the financial crisis.

      In the weeks following the EU referendum, the rate at which households and businesses built up holdings of UK banknotes and coins rose above 8% a year for the first time since 2009, according to a Sky News analysis of Bank of England statistics.”

      Reply People have been taking out holiday money I suspect.

      • Posted August 17, 2016 at 3:52 pm | Permalink

        It’s true that some of the monetary aggregates don’t count Treasury securities as money for some reason, but they are.

        So when the BoE starts buying bonds (QE), it looks like money is being created if you look at some monetary aggregates. Likewise, with a reserve drain it can look like money is being “destroyed”, but it isn’t.

        When you understand monetary operations at the central bank, it’s clear that no “net money” is created by QE. QE simply moves existing deposits in savings accounts (bonds, gilts, etc) at the BoE to checking accounts (reserves) at the BoE. It’s just an asset swap.

        I hope you understand, if not I can try to clarify further.

        • Posted August 18, 2016 at 9:34 am | Permalink

          Gilts are not counted as money because they are not money.

          What I understand is that under present arrangements our money is issued by the Bank, not the Treasury, while the Treasury issues gilts and Treasury notes, and also National Savings certificates, which are promises of money. But as I have said so many times in the past you will be disappointed if you offer gilts at the supermarket checkout, they want money; and one way of looking at QE as it has been practised so far is that the Bank and the Treasury have indirectly swapped their respective promises, with the Bank ending up with a stock of gilts while the Treasury has got money from the Bank, which money it has then used to help fund public spending.

      • Posted August 17, 2016 at 4:07 pm | Permalink

        The main thing people get wrong is they think the government “borrows” in order to spend more than it taxes.

        This is totally wrong in a fiat floating FX monetary system. As a simple point of logic, the government must spend first before it can tax or “borrow”. And the only reason for government “borrowing” (selling bonds) is to hit an overnight interest rate target – not to “finance” deficit spending.

        This all sounds like a theory, but once you see how the central bank operates, it all makes sense. When the government spends, it instructs the BoE to credit the necessary accounts. Those initial credits are termed “reserves”. Subsequently the government will issue bonds in order to “borrow”, and those reserves that are not taxed back (the government’s deficit) are swapped for bonds.

        QE is just undoing the reserves –> bonds part, as if the government never “borrowed” in the first place. Hence no change in “net money” in the economy.

        • Posted August 18, 2016 at 9:36 am | Permalink

          I’m aware that some people believe this.

  18. Posted August 17, 2016 at 8:54 am | Permalink

    I have to get my head around this. The state holds bonds. that is its debt to the creditor ( the central bank ?) At maturity the issuer of the bond has to pay interest i.e? the state to the central bank, but instead another part of the state buys the debt and ? the interest owed.( Is the interest paid then or does it accumulate ?) The new holder of the bond who is now owed the interest will not get that interest if yet again another bond is issued to the ex new holder. Does anyone ever get the interest or am I not getting it? HELP?

    Reply The interest is re credited to the Treasury, so in effect no interest is paid.

    • Posted August 17, 2016 at 3:19 pm | Permalink

      The Treasury owns the Bank and is entitled to all its profits. The Bank has bought gilts, bonds issued by the Treasury, and the Treasury pays the Bank interest on those gilts just as it does on gilts owned by normal investors. But in the abnormal case of the Bank the interest will get recycled to the Treasury as its owner. It may seem that it would be simpler if the Treasury didn’t pay the interest to the Bank in the first place, but that would mean not paying interest on the gilts owned by the Bank while still paying interest on the other gilts owned by the normal investors, so it could in fact turn out to be more complicated.

  19. Posted August 17, 2016 at 9:33 am | Permalink

    This policy may not be associated with the inflation that government chooses to measure, but it is hard to see how it is not associated with asset price inflation of real assets such as property causing greater indebtedness to banks by housebuyers, nor how it does not represent a tax on businesses confronted with pension fund shortfalls caused by low coupons. Meanwhile, the banks are being forced to hold larger amounts of bonds and then encouraged to sell them back to the BoE at a profit.

    • Posted August 17, 2016 at 9:53 am | Permalink

      According to the DT, “A Foreign Office source also claimed that Dr Fox and David Davis, the Secretary of State for Exiting the European Union, have a “much more extreme point of view” than Mr Johnson on Brexit.”

      Dr Fox has also been smeared by an anonymous source, “It came as Dr Fox was branded “nutty and obsessive” by a Whitehall official, believed to be linked to the Foreign Office. The official told The Times: “He’s Donald Rumsfeld on steroids. Fox is the more nutty and obsessive one. There’s something strange about him.”

      Of course, Rumsfeld was the Defense Secretary not the Secretary of State and his deputy who was widely believed to have driven policy was Paul Wolfowitz.

      Brexit means Brexit, but what does Brexit mean? To the FCO, does it mean the pretense of an exit from the EU ie with us remaining in the Single market or what; perhaps Mrs May should tell Johnson, Fox and Davis what Brexit actually means and it would be hoped that if it does not represent what 17.4 million people voted for then that will come to light and the government can be forced to change track even if it means sacking some traitors associated with the FCO.

      http://www.telegraph.co.uk/news/2016/08/16/boris-johnson-vows-to-knuckle-down-after-bitter-whitehall-feud-w/

  20. Posted August 17, 2016 at 9:39 am | Permalink

    All debt is a future liability to be recognised and honoured ; when this relationship is defaced or ignored , there can no longer be trust . The value of any currency at work in the world of trade depends on the integrity of its support ; if the value is denigrated and false it is hard to understand how trade can survive .

    Looking in from the outside it is easy to conclude that the EU is broke and that no manner of jiggery-pokery can change the truth . The IMF is basically at fault in allowing these systems to exist ; there has to be an international body that is recognised and respected to bring about a drastic change . In the past gold bars were used to provide a back-up ; today “papering” over seems to be the guide line .

    For goodness sake let sanity return to the world’s economic system .

  21. Posted August 17, 2016 at 10:14 am | Permalink

    Interesting explanation. I understood that the interest paid on these bonds held by BoE recycles back to the government (as you say via an accounting trick) so in fact having them held by the BoE is preferable to having them held elsewhere in the market, it is government debt at effectively 0%.

    One wonders how and when it will be unwound. I assume the answer is “it never will be”. In theory in times of an overheating economy they could sell all the bonds back into to market but I don’t know if any country has ever done that.

  22. Posted August 17, 2016 at 10:15 am | Permalink

    Juggling with full, half-full and empty “packages” is the highlight of our economic circus.

    In my book, it springs from a failure in appreciating that for example the words “Cow” or “£10 ” are just visual representations of things which have realities of their own.
    Mathematicians got into trouble with their “0” ( zero, nothing, no-thing ) quite some time ago. Yet that does not stop Economists, Bank Governors, Illusionists and Magicians and best example: Astro-Physicists, from making something out of nothing…at least in the eyes of people outside their circle. But regrettably people actually inside their circle sometimes,- other economists, banksters, and audiences, electorates, often believe in their self and group created myths and what were always meant to be representations of real things either on papyrus, vellum and now on a computer page.

    One may add to the juggling packages, bond-buying, interest, re-buying and crossing out a blue pencil or pressing the “delete” key through this and that package of debt, sticking it under the carpet or blindfolding everyone so they cannot see it. But if it had any reality outside of a printed page, that is, in the real world, then it cannot be mathematic-ed away in the end.

    Astro-physicists ( in their “world” ) have the luxury of their being no end in sight so their packages of nothings and probabilities of somethings can go on literally for ever as much as they wish and dream and live happily ever after, no doubt. But someone or some financial entity in the real world is going to cop it eventually with this shell game played by the ECB, Bank of Japan and the Fed. Ah well, those at the helm will be well into their retirements by then and someone else will be at the top building particle accelerates in the banks of Zurich looking for “value.” In all probability…finding it too, from their own standpoint, on the printed and virtual page, and given a Nobel Prize by Vikings.

  23. Posted August 17, 2016 at 10:32 am | Permalink

    There is no apparent inflationary effect yet, partly as you point out because of weakness of the banks, but partly also presumably as in theory all these bonds could be resold back into the market, reversing the QE. If the bonds are simply cancelled, then there has been permanent money creation, & so then perhaps we should expect to see inflation.

  24. Posted August 17, 2016 at 11:39 am | Permalink

    Quite. You could have put it more simply. QE provides a means for the State to cheat its creditors, and it’s really grotty behaviour.

    More generally, QE is a means of increasing the values of assets and making it hard for those who don’t have assets to acquire them.

    Big business can import cheap labour and pay next to nothing on its borrowings.

    Instead of credit being rationed by price via interest rates, it is rationed by banks demanding large deposits for mortgage finance and lots of collateral from small businesses. And of course house prices are rendered artificially high.

    Of all the causes of lack of social mobility, cheap money is right at the top of the list.

  25. Posted August 17, 2016 at 11:43 am | Permalink

    So QE is just a fancy name for devaluation?

    There was an ‘expert’ on TV last night talking about price inflation due to Brexit; after brushing aside that there was none in evidence, she told us to expect it in the future from more expensive foreign raw materials. No mention of the balancing effect of bigger exports and low oil prices and no mention of inflation deliberately stoked by the doom-mongering Remainers at the BoE/Treasury.

  26. Posted August 17, 2016 at 12:53 pm | Permalink

    They going full monopoly at this rate, it like 6 kids in a room playing monopoly making the rules up as they go along.

    They are 650, soon to be 600 MPs in parliament and they are responsible for all that goes on by the media of voting and take a pledge to look after the people of that area and though the media of voting in parliament the country.

    QE is just a back door ……… with the BOE owning the assets on behalf of the treasury and the treasury can order the BOE to right off a assets at no cost to the treasury apart from the interest the asset was bringing in and buying is unlimited in this way, they can give every account holder in the country 10,000 pounds and just right it off.

    The debt out side the country has to be paid and that running at 96 billion a year and the parliaments debt is running at 76 billion a year last year with 29 billion in government asset sold, cut in government departments of 10 billion a year or more which is cuts in services and also cuts to local government of so many billion.

    This is what you are losing while they are messing a round and john is right the debt is only 1.2 trillion pounds the other 500 billion can be wrote off by the BOE but the 96 billion to debt oversees is real with 76 billion and cuts to services.

  27. Posted August 17, 2016 at 2:34 pm | Permalink

    You only got to look at china, they are the kings of QE, 40 years ago they had nothing to day number one or two in the world, all the money they get from oversees goes into a fund, the rest of the money is printed by banks or QE, they are now sending people from china with their money in exchange for your money on line to buy property and business with state money, they have brought most things out side the country on QE and have no debt outside of the country, china government is the real owner of what it citizen buy because when the citizen take the state money out of china which is recorded to buy asset for themselves but the state of china can ask for asset the citizen has brought to be turnover to the state of china by taking their citizen to court in the country the citizen brought that asset under the charge of steeling state assets and money so that the asset now belongs to them, you can not disagree with the them because if the state of china says the money was stolen who can prove other wise.

    Reply China developed financial strength by running large balance of payments surpluses which gave it large amounts of foreign exchange.

    • Posted August 17, 2016 at 6:07 pm | Permalink

      Reply to reply

      Only partially true. Alongside current account surpluses, Chinese state bank lending is a huge factor. It’s government deficit spending by any other name, since they just roll-over the debt, but it’s “off balance sheet”.

      By boosting state bank lending, they were able to achieve 15% annual GDP growth. Now their growth is closer to 7% as the newer western-educated politicians start to worry about the debt, but their state bank lending is still a high percentage of GDP and they’re also starting to realise that expanding the fiscal deficit in fact does work just as well.

  28. Posted August 17, 2016 at 7:29 pm | Permalink

    The UK managed to devalue the currency 15% with one vote with maybe a lot more to come, the headline should read, UK steals a lead in the currency wars by stealth

  29. Posted August 17, 2016 at 8:17 pm | Permalink

    Thats all 650 MPs can come up with, a shell game but they dont know how it works but they have sign off on it for you, who also do not know how it works but the elite seem to know how it works.

  30. Posted August 18, 2016 at 7:44 am | Permalink

    If government did its accounting properly then buying bonds would NOT reduce State debt. The confusion arises because the monetary base wasn’t at first included as a State debt. At one time it was totally offset by Gold reserves. So there wasn’t any net debt attached to issued money. This should have been changed when the link to Gold was removed – but wasn’t.

    Consequently issued money is still not counted as debt. The rules are slightly different in different countries and they aren’t any better in the USA! They now have a National Debt of some $19 trillion which they could theoretically reduce to zero by minting 19 x Trillion Dollar Coins. (Just Google that term if you’d like a reference) The coinage in the US isn’t counted as debt.

    I they wanted a surplus they could mint an extra one!

    Having said this, I might just add that for us all to have financial assets in pounds or dollars that someone has to accept the liability. This has to be Governments. So it is natural for them to be in debt. It doesn’t mean they face bankruptcy!

  31. Posted August 19, 2016 at 3:35 pm | Permalink

    I have long wondered at what point the Bank of England simply puts a red pen through its gilt holdings acquired through QE and writes them off, as this would represent no more than an accounting entry now that one arm of the state owes money to another. I would imagine that by maintaining the massive QE gilt position there is at least the pretence that the Bank could sell its QE bonds back into the market one day and reverse the monetary stimulus, as writing off the bonds would make the money creation permanent, though it seem increasingly unlikely that this will ever happen.

    • Posted August 20, 2016 at 8:39 am | Permalink

      The Bank of England can’t do that. That would unbalance their books. The bonds represent an asset. They are effectively an IOU or liability of the Treasury.

      The pounds issued by the BoE are their IOUs. So from the point of view of the BoE they’ve simply swapped their IOUs for Treasury IOUs.

      You are right that the BoE and the Treasury are two arms of government. IF the two were merged then the IOUs would all be the IOUs of the merged entity and they’d simply cancel out to zero.

  • About John Redwood


    John Redwood won a free place at Kent College, Canterbury, and graduated from Magdalen College Oxford. He is a Distinguished fellow of All Souls, Oxford. A businessman by background, he has set up an investment management business, was both executive and non executive chairman of a quoted industrial PLC, and chaired a manufacturing company with factories in Birmingham, Chicago, India and China. He is the MP for Wokingham, first elected in 1987.

  • John’s Books

  • Email Alerts

    You can sign up to receive John's blog posts by e-mail by entering your e-mail address in the box below.

    Enter your email address:

    Delivered by FeedBurner

    The e-mail service is powered by Google's FeedBurner service. Your information is not shared.

  • Map of Visitors

    Locations of visitors to this page