THE Bank of England has announced drastic steps to help calm the markets after the Mini Budget led to a fall in the pound.
The Bank said it would buy government bonds on a temporary basis to help “restore orderly market conditions”.
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This process is known as quantitative easing. Its aim is to lower interest rates on loans and stimulate the economy.
It is an extraordinary intervention by the central bank to stabilise bond markets.
The interest rate on gilts – government bonds – has been rising over recent weeks and it spiked after the Mini Budget on Friday.
That made borrowing more expensive, but it also caused problems for financial institutions, particularly pension funds that use gilts as part of their investment portfolio.
While the pound hit an all-time record low of $1.03 against the US dollar on Monday, the yield on 10-year gilts – which is a proxy for the effective interest rate on public borrowing – has soared by the most in a five-year period since 1976, according to experts.”
The Treasury responded by reaffirming its commitment to the Bank of England’s independence and said the Government “will continue to work closely with the Bank in support of its financial stability and inflation objectives.
A spokesperson said: “The Chancellor is committed to the Bank of England’s independence.”
It comes as Chancellor Kwasi Kwarteng has been stepping up efforts to reassure the City about his economic plans after the International Monetary Fund criticised the Government’s strategy – and as the pound suffered further falls on Wednesday.
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Britain’s finance ministry said Bank of England intervention in the government bond market was needed to tackle “significant volatility” and market dysfunction, and any losses would be fully indemnified by the government.
Sterling hit a record low against the dollar on Monday – the lowest since decimalisation in 1971.
The value of the pound tumbled after Kwasi Kwarteng delivered his Mini Budget and has subsequently resulted in a domino effect of market chaos.
The fall in the pound has led the Bank of England to warn Brits that it could raise interest rates to 6% next year.
A move which could see house prices crash by 15% – and lenders have already pulled over 900 fixed mortgage deals, according to MoneyFacts.
The decline in property prices is expected to result in the number of homes sold each year collapsing from 1.2million to just 800,00.
What is quantitative easing?
Quantitative easing is sometimes described as “printing money” but in fact no physical bank notes are created.
Government bonds are a type of investment where the bank lends money to the government.
Buying bonds usually pushes up the price of bonds. When demand for anything increases, the price usually goes up.
Many interest rates on loans offered by by banks and lenders are affected by the price of government bonds.
If bond prices go up, the interest rate on those loans should go down making it easier for people to borrow money.
