The Bank of England’s (BoE) announcement earlier that it has begun buying UK government bonds from today came as a surprise to much of the market.
This new move by the central bank is intended to help balance out the market volatility caused by chancellor Kwasi Kwarteng’s new fiscal policy last week.
Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown, pointed out that this “topsy turvy set of policies” came so unexpectedly because the BoE had originally planned to do the opposite and begin selling off its UK gilts.
She added that today’s policy change is clearly a panicked response to recent market movements, stating: “The move that bank officials have made to step in now, just two days after it indicated it would wait until November, smacks of a bit of panic and also of frustration that the government appears to be digging in its heels, reluctant to perform a political U-turn.”
Kwarteng’s new fiscal policy and the resulting backlash has forced the BoE to drastically change its strategy or let the UK market worsen, according to Bethany Payne, global bonds fund manager at Janus Henderson.
She said: “The Mexican standoff between the government on the fiscal accelerator, and the central bank on the monetary brake, was won by the government as the Bank of England has had to blink.”
The central bank will have to pick up the pace if it wants to deliver on its commitment to reduce its balance sheet by £80bn in the first year, but this policy change could be misunderstood by the market.
Payne added: “Today’s announcement will stem some of the tide of selling flows we were expecting this week but is only a sticking plaster to a much wider problem.”
However, the BoE’s sudden change of stance could mean a less steep bank rate hike than the 6% markets are currently predicting, according to Samuel Tombs, chief UK economist at Pantheon Macroeconomics.
He said that even a 4% rise would be big enough to crush inflation and cause a recession, but the smaller increase would put more pressure on sterling.
“We expect sterling to take the brunt of any further deterioration in overseas investors’ willingness to lend to the UK,” Tombs added.
The BoE has done all it can to reduce turmoil in bond markets, but now is the government’s turn to bring back some stability, according to Donald Phillips, co-head of the Liontrust Global Fixed Income team.
He said: “Failure to address their fiscal plan, we believe, will likely lead to more pain in government bonds down the line.
“The sobering issue of the UK’s finances under this government likely explains why the pound so far has not joined in with the rally seen this morning in government bond yields.”
Mike Owens, global sales trader at Saxo Markets, agreed that the pressure now lies on the government to amend the market volatility it has caused, stating: “The focus will swing back to how the government plan to convince the market that their expansionist policy will provide the growth necessary to balance the UK’s finances.”