ALEX BRUMMER: UK hit hard by Bank of England bond blunder

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UK bond hit hard by bond blunder: Bank of England must accept responsibility for mistake we will all pay for, says ALEX BRUMMER

How the £30billion leeway in UK public finances became a £70billion black hole to be filled in this week’s budget seems to be one of life’s mysteries.

Those looking for political scapegoats blame Liz Truss and Kwasi Kwarteng and their rock-and-roll approach to tax cuts and borrowing.

It played a big part in Chancellor Jeremy Hunt’s determination to return to fiscal orthodoxy amid concerns over further attacks on the pound and gold stocks.

Bad call: Last week Bank of England chief economist Huw Pill (pictured) acknowledged that quantitative easing was partly to blame for runaway 10.1% inflation

The real villain of the coin is inflation. It has an impact by increasing the cost of government – notably welfare bills – and, significantly, increases the price of servicing the national debt. Faced with high borrowing needs after the financial crisis and Covid-19, the UK has made every effort to use indexed debt to fund borrowing.

This made the job of the Debt Management Office much easier due to the voracious appetite of pension fund managers, as it helped to balance assets and liabilities.

Index-linked gilt returns have kept pace with inflation triggers in many funds’ trust deeds.

We can now see how misguided this policy turned out to be and why the Government’s Interest Rates Bill has become such a critical part of Treasury thinking. The heavy reliance on pegged gilts has proven to be a burden on the Treasury.

It was assumed that the Bank of England would do its job of meeting the 2% inflation target so well that the downside risk of issuing these gilts was minimal.

Another issue is that inflation-linked gilts have moved with the Retail Price Index (RPI), which is generally hotter than the Consumer Price Index (CPI).

The upshot is that at least half of the £70bn rise in borrowing costs can be attributed to index-linked gilts.

With 23.9% of total UK debt issuance, the UK has the highest proportion of indexed securities among G7 countries and twice as much as the next closest borrower. This means the UK is a total outlier in its reliance on indexed stocks.

The danger of inflation spiraling out of control never seems to have arisen with successive chancellors, who signed off on the debt issuance, or the Office of Treasury and Debt Management, which advises the government.

Last week, the Bank of England’s chief economist, Huw Pill, acknowledged that quantitative easing was partly to blame for runaway inflation of 10.1%.

The Bank cannot escape its own responsibility in a fiasco of government funding that every citizen will pay for by raising taxes.

Marginal funding

The FTX fandango provides insight into how the rise of unbanked banking, or unregulated finance, poses a clear and present danger to stability.

At least when liquidity-focused investments imploded after the mini-budget, the Bank of England, fearing a cascade of insolvencies that could ripple through the banking system, was there with a safety net.

Britain’s 10 million defined-pay pensioners were protected. It was not thanks to the Pension Regulator, which is supposed to protect pensioners from risk.

No such safety net exists in the bizarre worlds of cryptocurrencies and its close cousin, non-fungible tokens (NFTs). The latest data from inside FTX shows that the bankrupt crypto exchange only had $900 million in readily accessible assets last week compared to $9 billion in liabilities.

No one is quite sure where the losses will land, but if recent blowouts – like those at bill finance house Greensill and hedge fund Archegos – are any guide, there could easily be leaks in the traditional banking sector.

All of this reminds us why regulators need to rein in industry newbies. Klarna boss Sebastian Siemiatkowski describes the FTX explosion as “pretty scary” but warns against over-regulation of fintech players, saying “we need more competition in banking”.

In principle, he is right. But consumers and businesses that have embraced new models cannot be blamed for trusting established and regulated methods in an era of rising interest rates and a slowing global economy.

Image creators

Joules’ failure will have ambitious fans of the faux preppie, country-style fashion brand shedding tears in their muesli from London’s Muswell Hill to Lake Windermere.

But don’t be afraid. Good, strong brands still have universal appeal, as Next recognized when it bought Made.com, M&S which saved Jaeger and Frasers now chasing Savile Row’s Gieves & Hawkes.

Reincarnation awaits you.

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