State could end up with big QE profit

If interest rates stay low the Treasury could be in line for a £50bn windfall

The losses suffered by the Bank of England as a result of unwinding its quantitative easing programme could be relatively modest and the Government could end up registering a significant profit from the programme, research by the central bank suggests.

An article in the Bank’s Quarterly Bulletin published today shows that even if market interest rates rose by around 400 basis points – 4 per cent – the Bank would only be facing an £8bn loss as a result of selling off its portfolio of gilts by the end of the decade. And if interest rates remained at the present low levels for the rest of the decade the Treasury would be in line for a £50bn windfall.

The Bank has accumulated £375bn in UK government bonds, known as gilts, since it commenced its unorthodox monetary stimulus programme under the outgoing Governor, Sir Mervyn King, at the height of the recession in March 2009. Many had assumed that the central bank would inevitably register big losses on these purchases when gilt prices fell and the Bank began to sell its stock back into the market. However, the Bank’s research suggests that gilt prices would have to fall very significantly for a major hole to open up in the central bank’s balance sheet.

Last November the Treasury announced it would be requiring the Bank to hand over the cash coupon payments accrued to its stock of gilts, which it would use to lower the annual government deficit. Some £35bn will be transferred by the end of this year. But the Government also pledged to transfer cash back to the central bank in order to cover its losses when it comes to sell off the gilts.

The Bank research shows that if it commences the sell-back in 2016 at a rate of £25bn a quarter and market interest rates rise by 200 basis points in response (which is equivalent to the downward shift in interest rates when the buying started in 2009), the Treasury will still be transferring billions of pounds annually back to Threadneedle Street by the end of the decade. And these payments will reach more than £40bn by 2019 as the gilt stock is gradually cleared. However, on this scenario, the Treasury would have registered a net profit over the life of the QE scheme of £20bn. If market interest rates fail to rise in response to the sell-back, the Government’s net profit will be £50bn.

The Bank’s researchers stressed that the QE programme should be judged by whether it had helped the economy, rather than whether it made a profit or loss for the state.