In its quarterly bulletin, published today, the BoE admits there are scenarios in which the Government could lose money as a result of QE.
QE works by the BoE providing a loan to the asset purchase facility – a vehicle which buys gilts and other assets to pump money back into the economy – which the APF then uses to purchases assets.
However, since QE was first launched in March 2009 a £30bn surplus has arisen. This has occurred because base rate has been lower for longer than expected when QE was launched, meaning the APF’s interest payments to the BoE have been smaller than coupon inflows from the gilts it has purchased, leaving an unexpected boost to the facility’s coffers.
Moreover, almost all of the gilts held by the APF were bought “above par”, meaning for a higher price than their redemption payment, which reflects market expectations that the coupon payments would be high relative to base rate. This means the coupon payments were expected to be greater than the interest on the BoE’s loan to the APF.
In November, it was agreed that the APF would transfer some of the surplus to the Treasury, although some of this money will have to be paid back when the gilts are redeemed or sold.
The BoE ran a number of scenarios to determine if there would be a net profit or loss when the gilts are eventuality redeemed or sold. It based these scenarios on market assumptions that base rate would begin rising from 0.5 per cent in early 2016 until it reached 4 per cent in 2020 and that it would begin selling assets in that year, although it varied assumptions of the price of gilt yields.
In one scenario, the BoE assumed gilt yields would rise 2 per cent relative to base rate, having previously said £200bn of QE had made gilt yields dip by 1 per cent. Under this scenario, the bank would receive £67bn in interest payments on the gilts, compared with a £50bn loss from the gilt sales – meaning a net gain of £17bn.
However, if yields rise by 4 per cent above base rate, the losses on the sale of the gilts would reach £75bn, resulting in a net loss of £8bn for the taxpayer.
The BoE says: “In all of the scenarios considered in this article, the initial transfer of cash to HMT is followed by large offsetting cash transfers back in the future. But it is not possible to say with any precision how large the total gross and net transfers between the APF and HMT are likely to be, as the variables on which these transfers depend are difficult to predict, and a wide range of outcomes is possible depending on the assumptions chosen.”