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The Bank of England intervenes for the third time to stop the financial panic in pension funds

2022-10-11T18:16:44.402Z


The monetary authority expands the purchase of public debt, to curb "a material risk in the financial stability of the United Kingdom"


The Bank of England (BoE, for its acronym in English) is working hard to try to stop the turmoil that the Liz Truss government's tax cut announcement unleashed in the markets.

On September 28, the institution chaired by the Australian Andrew Bailey announced that it was holding back its intentions to get rid of public debt (it has more than 900,000 million euros in British Treasury bonds), and that it was launching to buy more bonds, at a rate of almost 6,000 million euros per day, reaching a total of 75,000 million euros.

The intervention was going to end next Friday, but the stability achieved at first broke again at the beginning of this week.

On Monday, the BoE announced that it would increase the rate of purchases from 6,000 to 12,000 million euros per day.

This Tuesday,

"These additional measures will act as an added brake, to restore orderly market conditions, by temporarily absorbing the sale of index-linked bonds that exceed the intermediation capacity of the markets," the BoE said in a statement plagued with its usual esoteric jargon, which basically recognized that the pension funds were incapable of getting rid of bonds that they desperately had to sell for liquidity.

The pension fund problem

Unlike other countries, such as Spain, which have a generous public pension system, most Britons have been contracting private pension plans for decades, to ensure a peaceful future.

The funds that offer the so-called

Defined Benefit Pension Schemes,

which ensure a fixed annual remuneration in line with the average salary of recent years, manage assets worth 2.3 billion euros, almost double of Spain's GDP.

More than half of these assets are public debt bonds, whose reliability in terms of yield ensures payment for the coming decades.

In times of crisis, citizens begin to learn by force the complicated names of financial products that, in their day to day, they had no need to pay attention to.

In this case, they have been the

Liability Driven Investment

(LDI), or Investments based on Compliance with Obligations.

It is a technique used by many pension funds to balance the difference between their assets and their liabilities (the fulfillment of obligations with clients).

Through fund managers, and with loans from investment banks (money was very cheap until now), they buy derivatives on interest rates.

The problem arose when the Truss government announced fiscal plans, between tax cuts and direct aid to households and companies, to deal with gas and electricity bills, which represented an increase of almost 200,000 million euros of debt public.

The pound tumbled, and long-term bonds saw their yields soar and their price drop.

A fire sale

began to take place

, an accelerated sale, which, in the case of pension funds, became a vicious circle.

The investment banks that finance the ILDs demanded more guarantees (

margin call

) and the funds, forced to obtain rapid liquidity, rapidly sold the bonds they held, which in turn caused a further collapse in prices.

desperate race

In a letter sent last week to the House of Commons Economics Committee, BoE Deputy Governor Jon Cunliffe, who heads the Institution's Financial Stability Committee, admitted that, had the monetary authority not intervened, funds handling money on behalf of pensioners across the country “would have found their assets to be in negative net worth”, which would have caused “the need for many of them to have had to close the next morning”.

Because first it would have been a desperate race to pay off their bonds, but the next thing would have been to sell all the shares they have in the various British industries.

And that would have been the collapse feared by the Bank of England.

Despite the fact that the Minister of Economy, Kwasi Kwarteng, in an attempt to convince the markets of the seriousness of the Government with the accounts, announced on Monday his commitment to bring forward the presentation of his fiscal plan to October 31 (until now it was still promising to do so on November 23), investors remain highly skeptical about the sustainability of the announced debt.

The Institute of Fiscal Studies, in its latest report, presented this Monday, indicates that the Government will need to make cuts in public spending amounting to almost 70,000 million euros if it intends to control the proportion of public debt with respect to GDP at reasonable levels.

With the dire current electoral prospects of the Conservatives, the idea of ​​further cuts would mean a rebellion among their deputies.

Major pension firms have already called on the BoE to extend the planned bond-buying deadline beyond next Friday, at least until the presentation of Kwarteng's fiscal plan.

“It makes all the sense in the world that the bank does not completely close its support plans until the fiscal worries of the markets calm down.

We would not be surprised if it extends its commitment to buy bonds beyond October 14," said Paul Dales, the chief UK economist at consultancy Capital Economics.

Source: elparis

All business articles on 2022-10-11

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