Bank of England’s quantitative tightening could cost Treasury over £96bn over next four years

The Bank of England will cost the Treasury up to £96bn in the next four years if it keeps selling government bonds at its current pace, according to new analysis from the New Economics Foundation (NEF).

Ahead of the Bank’s decision on the pace of its ​“quantitative tightening” (QT) programme on Thursday [19 September], the analysis shows that if it keeps selling at the same rate then it will cost the taxpayer just under £24bn a year until 2028 – 29.

This is because the losses the Bank makes through selling its bonds are covered by the Treasury. Since 2022, these losses have cost the taxpayer more than £45bn.

The losses come about due to the different interest rates on reserves the Bank pays commercial banks and what it receives on the government bonds it owns. Further losses are made during quantitative tightening itself when the Bank sells a bond (or lets it mature) for a lower price than it initially paid.

New analysis from NEF shows that slowing the pace of quantitative tightening to what it was in 2022 – 2023 could save the taxpayer £4.4bn a year, enough to fund the removal of the two-child limit for benefit support, while halving the speed of quantitative tightening could save £10.6bn a year, enough to reach a target of retrofitting 7 million homes and repair crumbling public buildings.

Stopping the active sale of bonds completely and just letting bonds roll off as they reach maturity, the speed of quantitative tightening in use by the US Federal Reserve and the EU’s European Central Bank, could save £13.5bn a year.

However, there has also been speculation that the Bank may increase the speed of QT. Increasing the rate from the expected £100bn to £120bn would cost the taxpayer over £28bn per year, £4.5bn a year more than current speed.

NEF economist Dominic Caddick said:

“The Bank of England’s decisions having such large fiscal implications at a time where the chancellor wants to be fiscally tight is clearly not helpful.

“Furthermore, the losses the central bank make are gains for the private sector, funnelling billions of public money into commercial banks and the financial sector.

“The Bank of England should reflect on the value for money from such choices and the chancellor should reconcile the fact that her fiscal rules are imposing arbitrary constraints on her spending decisions which monetary policy decisions may put extra pressure on. Reducing the fiscal costs of our monetary policy system and reforming the fiscal rules must both be on the table”

The analysis finds that, in the next four financial years 2025 – 26 to 2028 – 29:

• Keeping quantitative tightening at the same pace will cost £96bn in the next four years. A yearly cost of £23.9bn.

• Slowing the speed of quantitative tightening so it aligns with the US Federal Reserve and the EU’s European Central Bank would reduce the cost by £54bn. A yearly saving of £13.5bn.

• Halving the speed of quantitative tightening would reduce the cost by £43bn over the next four years. A yearly saving of £10.6bn.

• Slowing the speed of quantitative tightening to as it was in 2022 – 23 would reduce the cost by £18bn over the next four years. A yearly saving of £4.4bn

• Speeding up quantitative tightening such that sales and rolled-off bonds amount to £120bn a year would cost an extra £18bn over the next four years. An additional cost of £4.5bn per year.

ENDS

Contact

James Rush – james.rush@neweconomics.org

Notes

NEF analysis of Bank of England data and the Office for Budget Responsibility’s (OBR) March 2024 Economic and Fiscal Outlook (EFO).

We use market expectations of the interest rate as of 31st August.

We calculate the implied interest rate on gilts held by the asset purchase facility and the implied percentage loss on sales using the OBR’s March 2024 EFO per fiscal year. We calculate these figures based on the OBR’s assumptions on the speed of QT, expected path of bank interest rate and interest and valuation losses (assuming the latter includes all losses from bonds maturing in the period). We keep these implied interest rates and percentage losses fixed across our quantitative tightening scenarios.

We assume keeping quantitative tightening at the current pace means a £100bn reduction in reserves from October 2024 — September 2025 and repeat this assumption for additional years. We assume all bonds scheduled to mature in this period are held to maturity with bond sales coming from elsewhere in the Bank’s portfolio making up the difference to £100bn.

We repeat this analysis for a reduction of £120bn (QT speeding up), £80bn (returning to the speed of 2022 – 23) and £50bn (halving the current speed). In years where the value of bonds maturing is greater than these assumptions, we assume bonds are allowed to mature above this target – in line with the Bank of England’s assumption in its quarterly asset purchase facility reports.

Lastly, we model a scenario where there are no active bond sales and reserves are only decreased through bonds maturing. This is in line with the speed of quantitative tightening happening at the US’s Federal Reserve and the EU’s European Central Bank.

NEF has estimated a Great Homes Upgrade to retrofit 7 million homes would require £11.7bn in public investment. Repairing crumbling public buildings is estimated to cost £11.4bn for schools and NHS costs are estimated at £10.2bn.

Removing the two-child limit for benefit support is estimated to cost up to £3.6bn once fully rolled out.