Response from the Bank of England to the
Treasury Committee's questions on quantitative easing
1. How much of quantitative easing does the
Bank of England estimate has flowed through to final demand, and
how much has been stored in bank reserves?
On 5 March, the Monetary Policy Committee (MPC)
decided to begin a programme of asset purchases for monetary policy
purposes—a measure sometimes known as quantitative easing.
Under the Asset Purchase Facility (APF), money is injected into
the economy as new central bank money (in the form of reserves
held by banks at the Bank of England) is created to pay for the
assets that are purchased. However, asset purchases can also inject
money directly into the non-bank private sector. When the Bank
purchases assets from non-bank companies, it credits the reserve
account of the seller's bank which in turn credits the seller's
account with an additional deposit. As a result, both reserves
(central bank money) and deposits (broad money) increase at the
same time as a result of the Bank's asset purchases. It is not
a case, therefore, of quantitative easing being stored in bank
reserves. The money can still flow through the economy regardless
of what banks do with the additional reserves. Before the Bank's
asset purchase programme was announced, banks held a small share
of the gilts in issuance, so it seems likely that a substantial
part of the Bank's gilt purchases ultimately came from the non-bank
private sector.
Asset purchases can boost nominal spending through
a number of channels. For example, additional deposits are likely
to be used to purchase other assets and goods and services. As
financial companies seek to rebalance their portfolios by purchasing
riskier assets, the prices of those assets are likely to rise,
lowering the cost of borrowing and increasing the wealth of asset
holders. That should in time encourage higher spending by households
and companies. Over time, the creation of additional reserves
held by banks at the Bank of England could also encourage banks
to lend more as their supply of liquid assets increases. A recent
article in the Bank's Quarterly Bulletin that sets out
in more detail how asset purchases are expected to affect the
economy is attached.
It is too soon to say how the Bank's asset purchases
will affect final demand. As with conventional monetary policy,
there will be long and variable lags as the stimulus feeds through
into the economy. Furthermore, it will be difficult to disentangle
the marginal impact of the asset purchases from the substantial
policy stimulus coming from other sources, such as the low level
of Bank Rate and fiscal policy. However, there are a number of
potentially useful early indicators of the impact of asset purchases.
One such indicator is to examine the behaviour of the stock of
broad money. Excluding the deposits of institutions that intermediate
between banks, broad money growth has picked up slightly but remained
subdued. Broad money rose by 3.7% on an annualised basis in Q2,
up slightly on the 3.3% increase in Q1. In part, that may reflect
the fact that broad money growth would have been much weaker in
the absence of asset purchases. However, the additional deposits
created by the asset purchases may also have been used in ways
that ultimately did not boost broad money. For example, some of
the money may have flowed to banks as they issued new equity and
long-term debt. Some companies may also have used the money to
repay bank debt. That does not mean that the asset purchases have
been ineffective. If they have helped banks and businesses to
repair their balance sheets, that should support bank lending
and nominal spending in the future.
There are also a variety of other useful indicators.
For example, gilt yields fell sharply on the initial announcement
of the Bank's asset purchase programme in March. Although yields
subsequently rose, they are likely to be lower than they would
otherwise have been. Asset prices more generally have also risen
in recent months. The FTSE All-Share index is up by a third since
early March and corporate bond yields have fallen markedly. Furthermore,
corporate bond and equity issuance has picked up in recent months.
Some of that will reflect the global improvement in market sentiment
over the period, but the Bank's asset purchases may also have
played a role. A box in the August Inflation Report provides
some evidence that the Bank's purchases of corporate bonds may
have helped to improve liquidity in that market.
There is substantial uncertainty around the
impact of the Bank's asset purchases on final demand. Such monetary
policy measures are rarely used. The MPC will continue to monitor
developments carefully to ensure that monetary policy is set in
order to meet the inflation target in the medium term.
2. What proportion of the purchases under
quantitative easing has been from non-UK financial institutions?
So far, the stock of assets purchased under
the APF amounts to around £128 billion. The bulk of the Bank's
asset purchases have been made up of gilts. The institutions eligible
to participate in the Bank's competitive gilt auctions are participants
in the Bank's gilt-purchase open market operations and gilt-edged
market makers (GEMMs), with other financial companies able to
participate through non-competitive bids. Given the international
nature of the UK financial markets, many of the participants in
the APF transactions are part of overseas financial groups. However,
the company within the group undertaking the trade is often incorporated
in the UK. How a non-UK financial institution is defined can therefore
make a substantial difference to the answer to your question.
But if we define them as non-UK incorporated companies, they only
account for around a quarter of the purchases.
That suggests that a little over £30 billion
of gilts have been bought from non-UK financial institutions.
But the nationality of the company that sells the gilts to the
Bank may not be that important, for two reasons. First, it is
the ultimate seller of the gilts that is important as they will
end up with the additional money. That may be a different company
altogether, with the sale only channelled through the Bank's counterparties.
Second, even if the ultimate seller is a non-UK
company, this does not mean that the asset purchases will be ineffective.
That company may decide to use the money to buy other UK assets,
in which case the transmission to nominal spending will be similar
to that described above. But if they choose instead to invest
overseas, they will need to exchange the sterling deposit they
have received for another currency. That could mean that more
of the impact of the asset purchases comes through the exchange
rate. But in any case, the sterling deposit will be transferred
to someone else, so eventually it is likely to be used to buy
other UK assets or goods and services.
12 August 2009
| 
