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Andrew Bailey is right to forecast deep economic woe for the UK because that’s exactly what he’s planning on delivering

Published by Anonymous (not verified) on Thu, 30/06/2022 - 5:40pm in

As the Guardian notes this morning:

Britons should expect to suffer a more severe bout of inflation than other major economies during the current energy crisis, the governor of the Bank of England has warned.

Speaking at a conference of central bankers in Portugal, Andrew Bailey said inflation was higher in the UK and would persist for longer than previously expected as soaring petrol and gas prices sent household bills rocketing to new highs.

They added:

Bailey said he was determined to bring down inflation and was prepared to use the Bank’s power to increase interest rates aggressively in response, though he added that it may not be necessary if price growth slowed towards the end of the year.

Contextually they noted:

His comments came as leaders of the world’s most powerful central banks warned that the global economy is facing a new period of persistently high inflation, unleashed by the coronavirus pandemic after decades of stability.

All of which sounds profoundly depressing. But the questions to ask are whether Bailey is right and is what he says will happen actually necessary?

In the sense that Bailey is right if his chosen policy is pursued  then I cannot argue with his conclusion. If, as he plans, the UK economy will have its life crushed out of it by unnecessary interest rate rises then of course recession will follow, as will personal hardship and misery for millions. As that is what he unashamedly plans then Bailey is not so much forecasting, as stating that this is his intention.

And if the government persists with Brexit; wishes to wage trade war with Europe; refuses to change the rules on energy pricing so that falling prices are denied to consumers and energy is priced at the highest possible price that the weakest market supplier says is necessary for its survival, then of course the government is also guaranteeing this outcome.

As it is also doing by already backtracking on windfall taxes and by its refusal to increase taxes on the wealthy, who are the only part of society exerting demand pull inflationary pressures right now.

Come to that, the governments refusal to use the indirect tax levers available to it to actually reduce inflation by cutting VAT and duty rates also guarantees we will do worse than those countries who are actually trying to curtail inflation. So Bailey is right again: things will be bad here.n

But as to necessity, Bailey is hopelessly wrong. There is nothing inevitable about what is happening in the UK. It has been chosen that things should be this way.

What is more, even though it is obvious that we are heading for recession, rising unemployment and under-used resources in the economy, there is no plan to do anything about this. The government should be designing a recovery package at this moment. Let us call it a Green New Deal. It is not planning that. So of course things will last longer than they need to in the UK: the exit route is not being prepared.

It’s easy for Bailey to be right. He just has to act with malice to impose interest rate rises and make no demand for a fiscal response from government. But being right is, in this case, to be profoundly wrong. And Bailey most definitely is that.

The double entry behind the money creation in the central bank reserve accounts

Published by Anonymous (not verified) on Tue, 21/06/2022 - 3:33pm in


Banking, Economics

I have been asked for a blog post explaining the double-entry that explains the money creation in the central bank reserve accounts that commercial banks hold with the Bank of England and apologise for the delay in delivery: this took more time to write than I thought it would. The full post is below, but for those who would find it easier there is also a PDF version, here

I have already written a note about what the central bank reserve accounts that commercial banks maintain with the Bank of England are, and how they are funded. However, that note could not answer every question that comes up with regards to these accounts, and in particular how they operate on a day-to-day basis.

I understand that there are real conceptual issues in understanding how it is that the base money that is created day in and day out by the Bank of England to let the government spend in fulfilment of its policy decisions within the UK economy can, nonetheless, be wholly ring fenced within the central bank reserve accounts maintained by the commercial banks with the Bank of England. Put another way, the question people struggle with is how the £900 billion or so in the central bank reserve accounts of the commercial banks at the Bank of England never transfers over from those accounts into the commercial banking sector, and similarly, why commercial bank money never transfers into the central bank reserve accounts.

The conceptual problem in understanding this does, I think, result from a lingering belief that most people have somewhere deep down inside them that there really is something physical and tangible that they might actually touch which represents money. That, however, is completely untrue. Even notes and coins are simply physical representations of an intangible promise made by the government to pay whomsoever might hold them as property at any particular point in time. They have no implicit value in themselves and yet it seems very likely that people do think that that there is a movement of some form of tangible property between bank accounts when payments are made and received between accounts.

This note seeks to explain why that is not the case and to demonstrate how government spending can both create central bank reserve account balances and simultaneously increase commercial money supply even though the base money and commercial bank created money remain quite separate, one from the other.

To explain this assume that the following quite simple series of transactions takes place:

  • The government wishes to pay Freda Davis her old age pension of £1,000 for a month. Freda banks with the Nationwide Building Society, which is a bank for these purposes;
  • When she gets her pension Freda transfers £400 of that sum to her husband, Thomas, who banks with Lloyds;
  • Freda then discovers that tax should have been deducted from the pension payment made to her and as a result makes payment to HM Revenue and Customs of the £200 tax liability that she owes on the pension that she received.

This seemingly everyday set of transactions gives rise to a great deal of activity behind the scenes. I will try to include reference to only those transactions that are strictly necessary to make clear what is happening apparent. The reality would be more complicated, but explaining why will add little more value.

First of all note that the payment to Freda is the settlement of a debt that the government has created to Freda. They have agreed to pay her each month, and she anticipates them doing so. It is this promise to pay that sets up all the transactions that follow. To record this debt the government debits its cost of old-age pensions paid account in its income statement and credits its pensions owing account on its balance sheet. If Freda kept double-entry books she would debit her pensions due account on her balance sheet and credit her income statement with the £1,000 pension income. This is step 1.

The next task (step 2) is for the government to settle this liability. To do this the DWP instructs the Bank of England to make a £1,000 payment through the Consolidated Fund to the commercial bank that makes payments on behalf of the Department of Work and Pensions. I will assume that is HSBC. So, the DWP records a reduction in its pension owing account (a debit) and a credit in the records it keeps of its account with the with the Bank of England. Both are for £1,000.

Of course, the Bank of England has to also record that transaction in the Consolidated Fund of which the DWP forms a part, but from its perspective this transaction is a debit – the government owes that sum to it. There has to be a credit to match, and there is: the Bank of England credits the HSBC central bank reserve account. Each sum is £1,000. (Step 3)

To simplify matters here (to save noting a lot of transactions in the bank’s own books to record inter-bank transfers), let us assume that HSBC immediately realises that the payment request it has received attached to the funds placed in its CBRA is not one that it can process – as the sort code on it will make clear. So, it transfers the funds straight on to the Nationwide CBRA in step 4.

Now, albeit indirectly, the Nationwide has £1,000 from the DWP lodged in its CBRA. It has an obligation to pay Freda as a result. This it does with commercial bank money. It accepts the debit in its books from the CBRA – the promise to pay from the government – as the guarantee and backing for its own promise to pay Freda – which it creates by recording the £1,000 owing to her as its liability (a credit) to her. (Step 5).

Freda completes this stage of the transaction in step 6. She credits her pensions due account on her balance sheet and debits her Nationwide account in her books, again for £1,000 in each case.

So, to this point we have these transactions:

To summarise to here, we have these transactions recorded when all transfers and account balances owing are taken out of consideration if they have been matched during this series of entries:

The DWP has paid Freda, and both base and bank money have been made on the way to doing so, without the two in any way cancelling each other out. Note that the double entries match in each pair of columns and especially that there is no leakage into or out of the CBRAs where instead the transactions are matched by those in other records to record the obligations recorded there.

This, though, is not the end of the transactions. Freda now has to pay her husband £400 to be paid into his Lloyds account, and to pay HM Revenue & Customs £200. To continue from where we were then, in step 7 Freda issues an instruction to the Nationwide to pay Tom. She credits her own record of her Nationwide account on her balance sheet and debits her ‘gifts to Tom’ account to record the spend.

In step 8 the Nationwide deducts funds from Freda’s account and records the fact that it now owes this money to Lloyds so that they can pay Tom.

In step 9 the Nationwide pays Lloyds via its CBRA.

In step 10 Lloyds acknowledges the receipt in its CBRA from the Nationwide and as a result records that it now owes Tom £400 by crediting his account.

Tom finally completes this transaction in step 11, recording as a debit the increase in his bank account and crediting his income account with the gift from Freda.

In step 12 Freda acknowledges her tax debt and in step 13 tells the Nationwide to pay it via Barclays, who collect bank payments on behalf of HM Revenue & Customs.

In step 14 the Nationwide deducts £200 from Freda’s account with them and acknowledges it now has a debt to Barclays for credit to HMRC.

In step 15 the Nationwide pays Barclays via the central bank reserve accounts.

In step 16 Barclays records the resulting debt from the Nationwide as a debit and that it now owes HMRC as a credit.

Step 17 acknowledges that this debt to HMRC will be paid via the CBRAs by making the necessary adjustments for that in Barclay’s account before in step 18 the funds are debited as a charge in Barclays’ CBRA and credited to HMRC’s CBRA account.

Finally, in step 19 HMRC records its income of £200 and that it now has £200 more in its CBRA. The record is complete.

Netting all these transactions out we now get:

A net £800 of new money has been created via the inflation of the central bank reserve accounts through government spending, which is reflected in the balances of the Nationwide and Lloyds even though originally paid to HSBC.

To match there is £800 of new commercial money created by those same banks, with Freda and Tom being the beneficiaries of this.

Of the original £1,000 of new money created £200 has been cancelled by the payment of tax.

That's how the central bank reserve accounts work.

How are the central bank reserve accounts created?

Published by Anonymous (not verified) on Fri, 17/06/2022 - 11:02pm in

I have been asked to explain how the central bank reserve accounts held by the commercial banks with the Bank of England are created. This note seeks to do that.

First, note that central bank reserve accounts (CBRAs) are held by the UK’s commercial banks with the UK’s central bank – the Bank of England.

As a central bank the Bank of England is owned by the UK government. It is responsible for the day-to-day management of the money supply in the UK; for the regulation of commercial banks in the UK and for managing the settlement of inter-bank debts in sterling, for the issue of which currency it is responsible.

The central bank reserve accounts serve two purposes.  Firstly, they provide the mechanism by which payments from commercial banks and their customers are made to and from the government. Secondly, they are the mechanism used by commercial banks to make settlement of the liabilities that they owe each other when fulfilling the obligations that their customers request be settled with customers of another bank.

These accounts are as a result restricted for the use of commercial banks and some other regulated entities in the financial services industry. It is believed that there are only a few hundred of them as a result.

Second, note that before 2007 there were almost no such balances, at least in total. The commercial banks and the Bank of England sought to achieve this result each day but used other very short-term overdraft and loan arrangements if that was not possible at that time. The current situation where all CBRAs are, in effect, bank despot accounts held by the UK’s commercial banks as a mechanism to guarantee their ability to make settlement to each other is almost entirely a creation of the post 2008 global financial crisis as a result.

Third, note that this change was in no small part motivated by those banks refusal to trust each other to make settlement after 2007, in which year it became clear that major commercial banks could fail when none had effectively done so since the 1860s.  Once banks had demonstrated their own inability to manage their balance sheets at the time of the global financial crisis it became apparent that these banks would need to hold funds with the Bank of England to prove their ability to fulfil their own promises to pay.

Fourth, the central bank reserve accounts were, in my opinion, deliberately boosted in value by the Bank of England to facilitate this inter-bank payment process. This was the way in which banks were bailed out post-2008 to prevent them failing again.

In that case the way in which these reserve accounts have been increased in value needs to be noted. Doing so requires four things to be understood:

  1. Overall, the sum held on these accounts is not within the control of the commercial banks. The sum that each bank might hold will vary from day to day. However, that is the consequence of payments between banks varying. However, the quantum of funds held in the CBRAs as a whole is determined by the Bank of England on behalf of the government because it is the sole creator of what is called ‘base money’.
  2. ‘Base money’ is sometimes called ‘central bank money’. It comprises the currency issued by central banks in the form of notes and coins plus the balances on the CBRAs.
  3. Base money is created as a result of the CBRAs being used to transfer funds from the Bank of England into commercial banks on behalf of the government, to whom it acts as primary banker through the Consolidated Fund, and to also receive payments from those banks that are due to the government.
  4. In summary, payments from the Bank of England Consolidated Fund account to the commercial banks increases the sums held in the central bank reserve accounts and so create what is called base money. These payments are made in the ordinary course of government business to make settlement to whomsoever the government chooses to make payment to, from an old age pensioner to the sums used to redeem gilts when they reached their repayment date. Payments to the government via the CBRAs include taxes due, the proceeds of new gilt issues and the receipt of the many trading sums owed to government agencies.

In that case the only way in which the balances on the central bank reserve accounts can increase is by the government spending more into the economy than it receives back from it. There is no other way in which this can happen. In turn that is only possible because the government can decide to fund its expenditure with new money created on its behalf by the Bank of England. That new money that the Bank of England creates for the government is base money.

The corollary is also true. The only way in which the balances on the CBRAs can be reduced is by the government collecting more money from the commercial banking system than it spends into the economy e.g., as a consequence of taxes paid being in excess of government expenditure, or by raising new borrowing in excess of current requirements e.g. because of quantitative tightening.

In this context, the role of quantitative easing can appear to be confusing, although it is actually quite straightforward. The pattern is as follows:

  1. At any time it wishes the government can decide to issue now financial instruments. These can be very short term, in which case they are described as Treasury Bills and are redeemed in days. Alternatively, they can issue bonds or gilts, which can have duration from a year or so to fifty years or more. It has been government practice to only issue such bonds when there is a deficit on its Consolidated Fund account with the Bank of England, the aim being to restore a neutral balance on that account. This, however, is not a necessity and before 2008 it was commonplace for this account to also be cleared through the so-called Ways and Means Account that the government maintained with the Bank of England, which was an overdraft in all but name.
  2. The issue of new financial instruments, of whatever their nature, results in new financial flows from the commercial banks to the government either because the banks themselves buy these instruments or, more commonly, because their customers do. These flows move through the CBRAs in either case since this financial conduit to and from the government is only available to the banking sector and a very select limited number of other financial services sector entities. Whether the payment the commercial bank makes is as principal or agent for their customer makes no difference: the flow is from them to the government via the central bank reserve accounts. The result of the issue of new bonds is to reduce the balance in the CBRAs, meaning that the balances on those accounts created by government spending being in excess of routine income are cancelled in whole or part. Bond issuance of this sort, it is stressed, is not a part of the quantitative easing process.
  3. If the Bank of England then decides to undertake quantitative easing all that it does is lend funds to its legal subsidiary, the Bank of England Asset Purchase Facility Fund Limited (the ‘APF’). This company is fully indemnified with regard to its activities by HM Treasury and as such an agent of Treasury and is not under the effective control of the Bank. That company then uses the loan funds provided to it by the Bank of England to buy bonds issued by HM Treasury on the open financial markets. There is no reason why these bonds need to be owned by the commercial banks, and it is likely that most of them will not be. This is inconsequential to the resulting movement through the central bank reserve accounts, which is represented by a flow of funds from the account of the APF to the commercial banks, which as a result increases the central bank reserve accounts balances.
  4. As a result bond issues cancel the CBRAs created by government spending being in excess of government income, and QE then in turn cancels that process, as if the bond issue never took place., effectively restoring the CBRA balances created by expenditure exceeding income. Given that the bond that was issued is, after being repurchased using QE under the effective ownership and control of HM Treasury it is easy to argue that the bond in question has effectvely been cancelled. This is the accounting position reflected in the Whole of Government Accounts, which are the only true and fair accounting representation of this transaction[1].
  5. QE is then a simple way of swapping bonds that need never have been issued for base money, and QT reverses that swap.

As a result the reality is that QE and QT are window dressing and it is the excess of government spending over income and routine bond issuance since 2008 that has created the CBRA balances.


Interest rate rises designed to crush returns to working people are financialised neoliberalism’s latest power grab

Published by Anonymous (not verified) on Fri, 17/06/2022 - 5:40pm in

My comments posted here yesterday  regarding the Bank of England’s interest rate rises that it claims will help tackle inflation provide some indication of my feelings on this issue. But, I think, insufficient indication, so I am returning to the subject now.

The Bank of England has effectively admitted in its recent commentaries on inflation that there is nothing it can do to tackle the international inflationary environment. It cannot solve supply chain problems, stop profiteering energy companies, end the war in Ukraine, or the impact of sanctions including food shortages. As it knows, no interest rate change will come close to tackling these issues. And they are the cause of inflation. Nothing else is.

Nor, incidentally, can quantitative tightening (which is simply reversing quantitative easing) solve inflation either, because QE has not contributed to inflation in consumer prices, as I have shown, and reversing it will in that case likewise have no impact on those prices.

In other words, right now there is nothing that the Bank of England, the Fed or any other central bank can do to tackle inflation. The only tools they have available to them tackle excess demand in the economy caused by wage inflation creating spending power in excess of the supply of available resources available to buy, and nothing remotely like that has existed in the UK or any other economy of late, excepting a few odd categories of goods like cars, where the desire for status-driven spending amongst those with higher incomes in the face of supply shortages has created absurd pricing.

Given these facts the central bankers should be saying three things. The first is that this is not inflation that they can tackle. Second, they should be making clear that they are doing nothing in that case. Third, they should be throwing the problem back to governments, telling them that this inflation is caused by political economy and fiscal issues, both of which it is down to them to address.

But that’s not what they are doing. Instead, they are claiming that in amongst the inflation created by all the factors that I note they are spotting that supposedly strong labour markets are increasing the wages of some employees in reaction to price rises elsewhere, despite all the remonstrations from central bankers that pay restraint be shown. As a result they claim it is their absolute duty to crack down on labour markets to ensure that there is no chance that any working person should seek too maintain their economic well-being in the face of the inflationary pressure that is creating impossible household budgeting issues for millions, if not billions, of people around the world. And this, they say, justifies them increasing interest rates, because doing so will break the power of the labour market to increase wage rates.

How will it do that? By creating a recession, of course. Consumer sentiment is already doing this. ASOS and Halfords are the latest retailers to complain of the difficulty of selling things, and persuading the consumer not to return them now a shortage of funds is making purchasers a whole lot fussier. But as if household despair at rising bills and little chance of pay increases for anyone outside the financial services elite (where things are going very nicely on the pay front) was not enough, now the central banks are intent on manufacturing recession to put a cap on wage rises.

Let’s be blunt in that case about what they’re doing. In the face of a crisis that is massively beneficial to energy companies and which will richly reward banks, in both cases for doing nothing of any additional social value whatsoever, the central banks are trying to suck demand for goods and services, employment and so wage rises out of the economy. They will, in the process, harm those businesses that do actually employ people and add real value in the economy, into which category banks and profiteering energy supply companies conveniently do not fall. In other words central bankers are intent on changing the allocation of reward in society, yet again. The shift will be away from workers and away from those employing people towards those who simply make gains on the basis of exploitation by sucking dry those who actually add value in the world in which we live.

This is rentier capitalism writ large in that case. Those committed to that form of exploitation are following the maxim that no crisis should be allowed to go to waste. They are using it to cement their positions. That millions, if not billions of people will suffer as a result once the spillover effects in developing countries who will not be able to service their dollar debts are taken into account, is a matter of inconsequence to them. As the New Economics Foundation pointed out yesterday, and as I did last weekend, this is not their concern. That bankers might gain from pillaging the economy with the supposed aim of eliminating nascent wage increases that might just give people the chance to survive this crisis with their households still intact is inconsequential to them, they say, because it is a necessary price to pay.

I beg to differ. This is a price not only not worth paying, but when we have supply side inflation their putting up the price of money, which is what they are doing, only makes matters worse. That much should be glaringly obvious. They apparently miss the point because changing interest rates is the only tool available to them, and they are determined to use it now that we actually gave inflation for the very first time since the era of independent central banking began more than 25 years ago to solve a problem already resolved by the time that they were created.

In the circumstances we need to recognise that what is happening is deliberate. A small, deeply privileged element in society is taking advantage of the current situation to wage class warfare on those who work for a living. Society is stacked to let them succeed. The cost of them doing so will be immeasurable in terms of human suffering.

But apparently the powers that be are going to let it happen. When asked the question ‘who should suffer to pay for this crisis, and who might gain’ their answer is ‘those least able to bear the burden should suffer so that the rich might gain’. It’s the same answer on Covid, of course. It is the same too on climate change. We are currently in denial on all three issues.

That denial is, however, mightily dangerous. Tensions that might be impossible to peacefully resolve are being crashed at this moment as financialised neoliberal capitalism makes what might be its ultimate, and ultimately destructive, power grab. These are deeply dangerous times. I am not sure how they resolve at present. But resolve they must.

The Bank of England’s choice: bankers or people? Which should they favour?

Published by Anonymous (not verified) on Thu, 16/06/2022 - 5:10pm in


Banking, Economics

This post is reproduced from the website of the New Economics Foundation, which has a new report out today suggesting that the problem of paying many billions of interest to commercial banks in the central bank reserve accounts needs to be addressed as a matter of urgency, with which I agree. That is why I share their proposal here. The report is by Frank van Lerven and Dominic Caddick:

As the UK recovers from the economic fallout of the pandemic, we now face a mounting cost of living crisis. Underpinning this crisis is a changing set of macro-economic dynamics giving policymakers a new set of factors that may slow the growth of the economy. After a decade of dangerously low levels of inflation, interest rates at their zero to lower bound, and nearly £1tn in quantitative easing (QE), inflation has risen to its highest rate for 40 years and is set to increase even more. Greater inflation would traditionally prompt the Bank of England (the Bank) to raise interest rates to alter credit conditions and dampen aggregate demand. But policymakers face a colossal problem – the Bank’s monetary policy toolkit is dangerously out of date and not designed to address today’s changing macro-economic circumstances. As a result, while so many families across the UK struggle with a soaring cost of living crisis, interest rate changes mean the Bank will be boosting the profits of banks through billions of pounds worth of payments (income transfers).

An innocuous change to the Bank’s monetary policy framework in 2009 now means commercial banks are remunerated, at the Bank’s policy interest rate, for all of their holdings of central bank money. But paying out interest to the banking sector for holding money in this way is an exception, not a historic norm. Given the lack of policy alternatives at the time, this method of conducting monetary policy may have been expedient in 2009. But with the banking sector now holding nearly £1tn in central bank reserves, higher inflation, and rising interest rates, three traditionally distinct issues have become needlessly conflated at an unnecessarily expensive cost to the government. The adjustment of the Bank’s interest rate – aimed at altering credit conditions – now has enormous repercussions increasing both the amount of government interest payments and the profitability of the banking sector.

The consequences of increased interest rates on government spending are well documented. In his recent 2022 Spring Statement, Chancellor of the Exchequer Rishi Sunak has warned how a further 1% increase in inflation and interest rates could add £18.6bn to the amount of interest the government has to pay on its debt in 2024 – 25 and £21.1bn by the end of the forecast. These increased costs may threaten to hamper – at least politically, even if not economically – both the government’s attempts to further stimulate the economy given a slowing recovery as well as the transition to net-zero emissions.

Meanwhile, far less attention has been given to the fact that interest rate changes will considerably boost the profits of the banking sector at the government’s expense. Given the Bank controls interest rates by paying out money to the banking sector, rate rises will result in the Bank making significant income transfers to banks, substantially improving their potential profit margins. Looking at different potential ranges for interest rate pathways, even with the Bank’s plans to unwind QE, an average interest rate of between 0.75% and 3% could mean the Bank making an income transfer to banks of between £6.9bn and £27.62bn by March 2023. Over the Office for Budget Responsibility’s (OBR) five-year forecasting horizon, an interest rate of between 0.75% and 4% would mean the banking sector cumulatively receiving between £30.34bn and £161.80bn.

To offer a more precise estimate of the Bank’s income transfers to the banking sector, we cross-reference market expectations for interest rates against a stock of reserves consistent with the Bank’s current plans for unwinding QE. Markets expect interest rates will rise to 2.5% by summer 2023, before gradually falling to 2.0% by January 2025. Based on this implied pathway of interest rates, the Bank would have transferred £15.08bn by FYE 2022 – 23 to the banking sector – equivalent to reversing all cuts to welfare payments since 2010 – and a total of £57.03bn by FYE 2024 – 25 – enough to fully retrofit over 19 million homes in the UK or to send every household in the UK a cheque of £2,000.

Given current financial conditions, there is good reason to believe that these income transfers will most likely be directly passed on into banks’ bottom-line profits, rather than being paid to customers holding bank deposits. Not only will these income transfers boost banks’ profits at a time when many families across the UK are struggling with rising costs of living, but they will also go to an already heavily subsidised banking sector that in the last year has seen its pay growth more than treble the wage growth in the rest of the UK economy. The income transfers will be for no extra credit risk taken and arguably for no additional services rendered; they come about by virtue of the banking sector’s exclusive ability to hold central bank reserves.

While many organisations, like the OBR and the Treasury, may often refer to central bank reserves as a form of public debt, we show that they are not debt instruments (ie loans from the banks to the Bank). Instead, they are a form of government money, like notes and coins. No money was ever borrowed or needs to be paid back, and therefore the Bank does not need to pay out any interest. Paying out interest and thus making significant transfers to the banking sector, is just one of many policy choices available to the government.

One possibility to avoid making such considerable income transfers to banks would be for the Bank to rapidly sell off its current bond holdings accumulated through its substantial QE programme, which would drastically reduce the amount of central bank reserves held by the banking sector. In addition to jeopardising monetary and financial stability, this would substantially increase the net interest servicing costs of the government and would result in the Bank making significant losses that would have to be covered by the Treasury. Given the Bank bought the majority of government bonds when interest rates were low, selling them when interest rates are higher means the Bank will receive less than what it bought them for. These losses could amount to anywhere between £105bn and £265bn.[v] A rapid sale of government bonds by the Bank would also dramatically increase interest rates while reducing the government’s profits from the Bank’s holdings of government bonds and thus considerably increase the government’s net debt servicing costs.

Under the existing monetary policy framework, the Bank is caught between a rock and a hard place: it can either continue making considerable income transfers to the banking sector or it can dramatically increase the debt- and interest servicing costs to the government. The Bank’s monetary policy framework is unnecessarily expensive, politically impalpable, and results in the Bank making fiscal transfers to one specific sector of the economy (to which other sectors are not privy).

There is a policy alternative and precedent, known as ​‘tiered reserves’, which is employed in other countries (in the Eurozone, Japan, and previously in the UK). This permits the distinct separation of the Bank’s policy rate from the government’s interest servicing costs and the profitability of the banking sector. Importantly, a tiered reserve system would mean the Bank would not have to unwind QE or sell any government bonds at the expense of the taxpayer, and monetary and financial stability.

Grounded in the experience of the Bank of Japan (BoJ) and the European Central Bank (ECB), we offer an illustrative proposal – with three distinct possibilities for remunerating central bank reserves – for how such a framework could work in the UK. Based on market expectations of interest rates, even with QE unwinding a tiered reserve system could save the government between £10bn and £15bn in income transfers to the banking sector by March 2023 and between £25bn and £57bn by March 2025.

Transitioning to such a framework would entail important policy decisions that should not be taken lightly. Given that a tiered reserve system would result in a dramatic reduction of interest costs to the government, the Treasury and the Bank have criticised this reform proposal as fiscal policy through the back door. These censures, however, neglect that the alternative – billions of pounds in income transfers to the banking sector during a cost of living crisis – is a form of fiscal policy that is surely less aligned with the public good and societal interests.

Another issue to consider is that withdrawing these significant income transfers from banks will affect their profit margins, which might lead them to pass on losses to their customers, by raising the cost of borrowing. However, this issue only materialises under conditions that would normally warrant the Bank to raise interest rates and drive up the cost of credit. As noted by a recent IMF (2022) paper that advocates for such a tiered reserve system, passing on the higher cost of borrowing to customers ​“would be a feature, not a bug, as it would amplify the desired contractionary effect”. The transition and trade-offs would need to be managed carefully, but this problem is hardly insurmountable given that increasing interest rates and raising the costs of borrowing is exactly what the Bank is trying to do.

We are in a deep economic mess that can only get worse because that’s what central bankers want

Published by Anonymous (not verified) on Wed, 15/06/2022 - 5:27pm in

The FT has just reported in an email that:

The European Central Bank has called an unscheduled meeting of its governing council to discuss the recent sell-off in bond markets, raising the prospect it could announce a new tool to tackle surging borrowing costs in weaker eurozone economies.

I am unsurprised. Of course we have disorderly bond markets. They are the deliberate creation of central bankers, led by the Fed and the Bank of England, with the European Central Bank planning to follow suit.

And to compound issues we now have the Bank of England beginning quantitative tightening - or QT as it is called in the jargon. This is the policy of either selling back government bonds by the central bank bought during the QE programme to the financial markets, or the policy of not reinvesting proceeds in new bond acquisitions when bonds purchased under that programme are redeemed by the Treasury of the country that issued them.

More than £25 billion of QT has now happened in the UK, denying the government funds that it has instead sought to raise by increasing national insurance.

And as the FT reports this morning QT is now also starting in the US:

The mammoth task of shrinking the Federal Reserve’s $9tn balance sheet has finally begun. On Wednesday, the US central bank will stop pumping the proceeds of an initial $15bn of maturing Treasuries back into the $23tn market for US government debt, the first time it has done so since it kicked off its bond-buying programme in the early days of the coronavirus pandemic.

But, in an article that is shockingly error-strewn as the nature of banking and money, what the FT also notes is that the last time the Fed tried to do this the policy led by 2019 to disaster, with overnight lending markets seized up, suggesting the Fed had pulled too much money out of the system.

That was before Covid, war, sanctions, recession, global supply chain chaos and more. Now we have all them. But the Fed is trying again.

So, of course markets are in chaos.

Of course there will be liquidity crises.

Of course countries who do not borrow in their own currencies will fail.

Of course recession will follow like night does day.

And all this because the central bankers want this to happen.

And then they are surprised. But that is because, as Prof Danny Blanchflower pointed out yesterday in the Evening Standard, that is because they appoint incompetent 'yes men and women' to central banks who will do the bidding of neoliberal governments.

We are in a deep economic mess that can only get worse, and that very largely is the fault of central bankers who want to turn a short term inflation into a long term stagflation, and who look like they might just succeed in doing so.

Oh, and for those who are wondering why they might want this, it’s because the opportunity for making banking profit is much greater in unstable and chaotic markets than it is in stable ones. I cannot, barring ignorance of economics, find another explanation for what they are doing.

The world’s central bankers: running the economy as if they want a disaster

Published by Anonymous (not verified) on Tue, 14/06/2022 - 4:57pm in

As the Guardian reports this morning:

Fears about a possible recession have pounded stock markets around the world amid reports that US Federal Reserve could raise interest rates by as much as 0.75% this week – its biggest single hike in borrowing costs for nearly 30 years.

As Wall Street’s benchmark S&P 500 index fell almost 4% on Monday into bear territory, prompting selloffs from Sydney to Shanghai, US central bank policy makers will begin a two-day meeting on Tuesday with expectations mounting that they will lift rates by at least 0.50%.

This is only the seventh bear market since 1945, so this is economically significant.

So too is the Fed's reckless path that is not stopping inflation, but is driving up the dollar, is threatening recession and will create massive poverty in countries that have debts denominated in dollars - about whom the Fed seems to be utterly indifferent as if running a reserve currency is an issue of no consequence for it.

Simultaneously, the Fed is providing cover for those on the UK Monetary Policy Committee seeking to impose maximum hardship on the UK when, once again, interest rises can only increase the economic problems that we face, and solve none.

It's as if some people wanted a disaster.


Solving the problem of excessive government interest payments to banks: just issue them with some £10 million pound coins

Published by Anonymous (not verified) on Mon, 13/06/2022 - 5:00pm in


Banking, Economics

Yesterday John Warren posted a thought experiment on the blog. Following an introduction that is worth reading but which I will not repeat here he said:

Here is the thought experiment, and the question. It is very simple. What would happen if the Government decided to print £1Trn of crisp new notes in all the denominations; but – crucially – didn’t circulate it: just placed it in the (empty and convenient) vaults in Threadneedle Street; the fiat equivalent of Gold. How would that appear in the accounts of government and BofE, and what happens to the recording of the National Debt. How does the balance sheet look now? We could vary the terms; print a single £1Trn bank-note, then we know it will never circulate (that variant was put to me by a young economist – who has broken free from the conventional wisdom).

My immediate thought is that this is a variant on the trillion-dollar coin suggestion from Krugman and others in the USA.  I think the variant is really important, including in this case. There are two reasons for that.

First, technically £1 trillion of banknotes not issued do not represent debt: they are simply a prepaid cost of the manufacture of tokens of debt that might be issued. As such the double entry is credit manufacturing cost in the income account, debit stock and work in progress on the Bank of England balance sheet, with that debt retaining value until the note design ceases to be used, when this stock will become worthless. I suggest that the printing has no consequence at all until issued simply because there is no liability on the balance sheet. And that is important: what it says is that the Bank of England is, like any bank, unable to create money without third-party involvement [see footnote].

However, the Treasury can and does creates coins with value when minted through its subsidiary the Royal Mint and I think it can be successfully argued that they are not in the official money supply figures, although acknowledged by the Bank of England as base currency. This is because coin (and there are only £4.2 billion worth in existence) are not accounted for as liabilities whilst in contrast notes most definitely are in the national debt, if only via the Bank of England net contribution to that debt. I should add that I have tried to get straight answers on both these issues from HM Treasury, the BoE, and ONS, without any success from any of them. But, the evidence from the accounting is I think unambiguously what I have suggested.

I should, having said so, make clear that how the Treasury accounts for the surplus / loss on coin creation is unclear in its accounts, largely because after routine manufacturing costs for the current coins in issue the net sum might be very small, but the accounting for their issue can, for those willing to pursue the point, be found in the Consolidated Fund Accounts. This is from them for 2021:

The essential point here is that the value of the coins issued were income in the Consolidated Fund:

There is therefore a debt with the Bank of England - the Consolidated fund balance increased.

But where, after costs of issue, does the profit in the Treasury go? A credit in the income statement has to have a balance sheet consequence after all. There is no indication I can find of that: the net sum is probably too small to require disclosure, in fairness (and to confuse matters the cost of creating the money is confusingly in the Treasury's accounts). And yet this is the age-old seignorage - the profit that goes to the coin creator from turning metal into coin, and it does exist. It would most definitely exist if a £1 trillion coin was created.

As noted above, the value of that coin would be recorded as income in the Consolidated Fund - which is a trust account of the Treasury, and so part of government funding. Base money would increase by £1 trillion as a result. But where does that £1 trillion credit in the income statement of the consolidated fund flow to on the balance sheet? It can't go to liabilities because there is already a credit in the income statement, so the only place it can go is to the Reserves of HM Treasury. And meanwhile, the Bank of England would simply record it as a banking transaction.

So what does an increase in reserves mean? It is, in effect, an increase in capital, which is, of course, exactly what happens here. The government did create capital for the banking system to use. The resulting accounting for such a coin reflects reality, which the accounting for  QE and central bank reserve accounting does not.

The additional interesting point is that as far as I can see this gain does not fall out on consolidation of the accounts. When that takes place there is a debit left from the Bank of England accounts, which is  to base money, and a credit to government reserves. I will happily be shown to be wrong. But in the time I have had available that appears to be the accounting result of this.

What is the consequence? My suggestion is that it is pretty straightforward. That debit to base money can be used. How? To replace the central bank reserve accounts held by the commercial banks with the Bank of England, I suggest. The coin might need to be broken down into some smaller units in that case starting with ten million-pound coins and maybe moving up to some billion-pound ones. But the point is, the Bank of England could insist that the commercial banks enter into an exchange of their central bank reserve accounts for coins to the extent that the Bank of England desired, and those coins would then be an asset on the commercial bank balance sheets guaranteeing their solvency, and permitting inter-bank settlement as well by registering charges on them, but at the same time no interest need be paid on them by the Bank of England. That last issue goes away.

And what of that credit in the reserves of the Whole of Government Accounts? That is then properly described as the 'national capital'. That is, it is the value injected by the government into the economy for the public good. But what the government does not have to do is then pay anyone for the privilege of having done the right thing for society.

Finally, does this prevent monetary policy using changing interest rates to be transmitted into the economy via the CBRAs?  It does not. Remember, this worked in 2008 when the balances were around £40 billion. Near enough £900 billion is not required for this purpose now. Maybe £100 billion would be sufficient for that reason. It is hard to imagine more than £200 billion is required. Interest on all the excess is saved. That’s quite something in terms of economic justice, and all for issuing some coins.

So is this the Krugman trick? I suggest not. That was intended to cancel debt. This does not. It recognises QE cancelled gilts and redenominates the central bank reserve accounts, for sure, but the aim is different. The aim is to cancel interest payments and to recognise capital. I don’t see that as the Krugman goal, and suggest this is in any case better as it reflects what actually happens, simply repricing it.


[Footnote] This is also true with quantitative easing: the idea that a Bank of England subsidiary is the counterparty to Bank of England money creation in quantitative easing is not true. The Bank of England's Asset Purchase Facility is in fact run by a subsidiary wholly under the economic control of the Treasury, which underwrites all its losses. That is why it is not consolidated in the Bank of England accounts. although this is not admitted.

Money, debt and thin air

Published by Anonymous (not verified) on Sat, 11/06/2022 - 5:29pm in


Banking, Economics

As a result of yesterday’s thread on the relationship between banking, banks and the UK’s central bank - the Bank of England - a number of challenges have been made to my claims. I think there are thee injections, in essence.

The first is that money is not debt. The second is that money is not created ‘out of thin air’ and the third is that the Bank of England does not create the balances on the central bank reserve account deposits that the commercial banks have with it. I think each needs to be addressed. I am going to do so using arguments published by the Bank of England in 2014. On these issues there is sufficient alignment between my position and that of the Bank for me to use their suggestions to support my own.

Money is debt

This chart was published by the Bank of England in 2014:

As they added:

Money in the modern economy is just a special form of IOU, or in the language of economic accounts, a financial asset.

Or, in other words, money is just debt. That is all there is to it.

That includes notes and coins too: they are just a tangible record of the debt the government incurred when spending them into the economy, because they do not give them away.

Anyone who wishes to argue money is not debt is welcome to, but please take it up with the Bank of England. And if the claim is that this is not what you were taught, note that the Bank says:

The reality of how money is created today differs from the description found in some economics textbooks.

The textbooks are wrong.

Money out of thin air

The same 2014 publication from the Bank of England notes that:

In the modern economy, most money takes the form of bank deposits. But how those bank deposits are created is often misunderstood: the principal way is through commercial banks making loans. Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower’s bank account, thereby creating new money.

That is how money is created. In a modern economy there is no other way to do it. The consequence, as the Bank of England also notes, is that:

Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits.

In other words, savings are redundant to the process of lending and banks are not intermediaries between savers and investors. The only use for bank deposits from customers as far as banks are concerned is to provide them with very cheap capital: in effect the banks treat deposits as if they are money that they might lose, a fact aided by the government guarantee for all customer deposits to £85,000, which means the banks know that they have no responsibility with regard to such sums.

Why don’t banks lend without limit then? As the Bank of England says:

Although commercial banks create money through lending, they cannot do so freely without limit. Banks are limited in how much they can lend if they are to remain profitable in a competitive banking system. Prudential regulation also acts as a constraint on banks’ activities in order to maintain the resilience of the financial system. And the households and companies who receive the money created by new lending may take actions that affect the stock of money — they could quickly ‘destroy’ money by using it to repay their existing debt, for instance.

That last point is very important. What it says is that loan repayment destroys commercial bank-created money.

To summarise:

  • Banks do not lend other people’s money. They create all the money they lend;
  • The money created in this way is how bank deposits are created;
  • Repaying loans destroys money.

The central bank reserve accounts 

As the Bank of England says in the same 2014 document:

A different definition of money, often called ‘base money’ or ‘central bank money’, comprises IOUs from the central bank: this includes currency (an IOU to consumers) but also central bank reserves, which are IOUs from the central bank to commercial banks. Base money is important because it is by virtue of their position as the only issuer of base money that central banks can implement monetary policy.

The central bank reserve accounts are the only depositories for this base money created by the Bank of England. The suggestion that it might come from elsewhere is wrong, although it can be destroyed by the government increasing the demand for tax or borrowing - when commercial money is used to destroy the base money in the central bank reserve accounts by the settlement of debt owing with regard to tax or bond purchases.

What, however, is never true is that the commercial banks can create base money: they can only be recipients of it. In that case if the central bank reserve accounts increase it is because the government via the Bank of England (and they are not in any way independent of each other) has decided that this should happen by:

  • Spending more money into the economy
  • Repurchasing government debt (QE)

This money injection, which requires no decision or active engagement by the commercial banks, inflates those commercial banks' balance sheets - hence my suggestion that the money is gifted to them.

The Bank of England summarise this in this chart:

Thye no money assets of the Bank of England are treasury bonds, in the main.

I have summarised the balance sheets of the Bank of England as follows from 2008 to 2021 (the latest available)(click the image twice for a larger version):

The central bank reserve accounts rose like this:

The match to QE is not perfect: other funds flow through these accounts, but it is close.

I hope this makes all these issues a little clearer, but I am not much inclined to discuss the rights or wrongs of this explanation: as far as I and the Bank of England are concerned, these are facts.

How the banks are taking public money for private gain

Published by Anonymous (not verified) on Sat, 11/06/2022 - 3:28pm in


Banking, Economics

I recorded this for Byline Times yesterday, and it went out last night: