Chancellor of the Exchequer George Osborne told Bank of England Governor Mervyn King that quantitative easing could be used to buy private-sector securities, hinting at a split over how to aid the economy.
In a letter to King authorizing the extension of the bank’s bond-buying program to 275 billion pounds ($421 billion) from 200 billion pounds yesterday, Osborne highlighted the credit scarcity continuing to hamper small and medium-sized businesses.
The Bank of England has focused almost entirely on government bonds since quantitative easing began in March 2009, shunning the option to buy as much as 50 billion pounds of riskier private-sector assets despite a Treasury pledge to indemnify it for any losses. Corporate bonds account for just over 1 billion pounds of the assets purchased so far.
“The chancellor’s letter clearly betrays that they do not see eye-to-eye on how to support the economy,” said Danny Gabay, director of Fathom Financial Consulting in London. “Osborne repeatedly stresses the private-sector route.”
Speculation about possible tensions between the Treasury and the central bank grew earlier this week when Osborne used his speech to the Conservative Party conference to announce plans for a program of credit easing to channel money directly to companies struggling to obtain bank loans.
The proposal envisages the Treasury selling bills and using the proceeds to buy corporate bonds or packages of securitized loans made to small companies, possibly using the central bank as an agent.
“The Treasury is now thinking of doing this itself,” said Jonathan Portes, director of the National Institute of Economic and Social Research in London. “There is an implicit statement that the Treasury is saying to the bank that if you are not going to buy private-sector assets, we are.”
Osborne today told BBC Radio 4 that he doesn’t think King is dragging his feet, saying he has “good relations” with the governor and the central bank.
“The chancellor and the governor of the Bank of England are acting in concert with each other, not in war with each other,” Osborne said. “That is something I have put a lot of effort into and so has Mervyn King. We have the right division of responsibility. He undertakes the purest form of monetary action, consistent with an independent Bank of England. I help channel money to parts of the economy that the elected government deems necessary.”
In his letter to King, Osborne wrote that eligible purchases “include gilts and eligible private-sector assets” and that the 50 billion-pound ceiling for private assets remains unchanged. He then referred to his own plan to tackle the “continued impairment in the flow of credit to some parts of the real economy, notably small and medium-sized businesses.”
A Treasury official said Osborne was highlighting how the program works, as his predecessor Alistair Darling had in other letters. In March 2009, Darling gave King the green light to “purchase U.K. government debt on the secondary market as well as the full range of private-sector assets” using newly printed money.
Darling, who helped design the asset-purchase program as chancellor in the previous Labour government, told BBC Radio 4 yesterday he had grown “quite frustrated” with King’s insistence on buying only government debt.
“It has to be done in such a way to make sure the money leaves the banks’ vaults, otherwise it has no effect,” Darling said.
Britain has struggled to recover from its worst recession since at least World War II, with the economy barely growing over the past year. With gilt yields now close to record lows, some economists have questioned the effectiveness of pumping more money into the economy by buying government debt.
Gilts have returned 12 percent this year, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies, surpassing the 7.3 percent gain for German bunds and 8.8 percent increase for U.S. Treasuries. The 10-year gilt yield gained 1 basis point to 2.4 percent as of 11:30 a.m. in London.