Well, that was quick. Last Tuesday, on only its second day, the Bank of England's latest quantitative easing (QE) programme hit a snag. The plan was to hoover up £1.17bn of long-dated gilts. Unfortunately, not enough bondholders wanted to sell. The bank was offered just £1.12bn worth even though it was prepared to pay prices significantly above market levels.
So what's the problem? These investors pension funds and insurance companies are desperate for the yield on those bonds. They are really keen on long-dated paper because it helps them to match their income streams to their long-term liabilities. They could, in principle, sell the bonds and book a capital gain, but then they would be forced to reinvest that money at historically low, and consistently falling, interest rates and bond yields. They worry that if they do that, they will end up with too little money to cover their future payouts.
MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Tuesday's hiccup is just a microcosm of how central banks have trapped developed economies in a vicious circle. Ever since the 1980s, central banks led by the US Fed have tended to respond to every wobble in the economy and market by showering both with liquidity. Cutting interest rates, however, simply blew up a series of bubbles. When they burst, policymakers would inflate another one to avoid a nasty downturn. We have gone from tech bubble to credit bubble to post-credit crunch bubble. So much for the received wisdom that central bankers were clever enough to abolish the boom-and-bust cycle.
Now look where we are. The negative side-effects of QE, the next step once interest-rates reach zero, easily eclipse any benefit it may once have provided in cushioning the downturn.
It's not just that rates are so low investors are being forced to chase risk, blowing up bubbles in markets. Lousy banks and companies are being kept alive, preventing capital being allocated to promising new ventures. Long-term growth and productivity will dwindle, no doubt prompting yet more central bank activism.
Where will it end? We could see helicopter money and a sharp jump in inflation, which will at least finally raise interest rates, but implies a nasty crash in bonds. Inflation jitters are one key reason to hold gold, but another is more basic and has been highlighted once again by this week's events. More and more investors may soon come to realise that not only do central banks not have a plan they don't have a clue.
-
What is the 25x retirement rule and does it work?The 25x retirement rule has been around for decades but many experts question if it is a suitable strategy
-
When is the self-assessment tax return deadline?If you are self-employed, rent out a property or earn income from savings or investments, you may need to complete a self-assessment tax return. We run through the deadlines you need to know about
-
'Governments are launching an assault on the independence of central banks'Opinion Say goodbye to the era of central bank orthodoxy and hello to the new era of central bank dependency, says Jeremy McKeown
-
Why investors can no longer trust traditional statistical indicatorsOpinion The statistical indicators and data investors have relied on for decades are no longer fit for purpose. It's time to move on, says Helen Thomas
-
Live: Bank of England holds UK interest rates at 4.5%The Bank of England voted to hold UK interest rates at their current level of 4.5% in March, as widely anticipated, after inflation rose to 3% in January
-
Bank of England cuts interest rates to 4.5%: full updates and analysisThe Bank of England voted to reduce the base rate by 25 basis points at the first MPC meeting of the year on 6 February. Full coverage as it happened from the team at MoneyWeek.
-
December interest rates: Bank of England keeps rates on holdThe Bank of England kept interest rates on hold at 4.75% in the final Monetary Policy Committee meeting of 2024. Full analysis from the MoneyWeek team.
-
Bank of England cuts interest rates to 4.75% – MPC meetingReporting from the Monetary Policy Committee November meeting. Full coverage, as it happened, from the team at MoneyWeek.
-
Inflation drops below Bank of England target for first time in over three yearsUK inflation slowed to 1.7% in September, boosting the chance of a more aggressive approach to interest rate cuts from the Bank of England
-
Bank of England holds interest rates at 5%The decision was widely expected, after the Bank of England warned interest rates would have to “remain restrictive for sufficiently long”
