The crumbling pound sterling and gilts are being slaughtered after Britain embraced
drip splash economy. At the time of the pixel, the cable costs around $1.09. FT Alphaville sincerely hopes that everyone who was looking forward to traveling abroad this year has already done so.
As UK markets go into the Red Wedding, what is the central bank governor to do?
Antoine Bouvet and Chris Turner of ING consider that quantitative tightening, after being given the green light yesterday, is now dead in the water (our emphasis):
We have already written extensively that the trading conditions in the gilt market require the BoE to proceed very cautiously when it comes to adding to the selling pressure that is already evident in the gilt markets.
A number of indicators, from implied volatility to widening bid and ask spreads, suggest that liquidity is running out and market functioning is being affected. A signal from the BoE that it is willing to suspend gilt sales would go a long way towards restoring market confidence., especially if you want to maximize your chances of fighting inflation with conventional tools like interest rate hikes. In short, the QT battle is not something worth fighting for the BoE.
But Deutsche Bank, which has argued that the UK could be stumbling into a full-blown currency crisis, is refusing to kill off QT and calling on the Bank of England to get away with it.
Here’s George Saravelos from DB this afternoon (our emphasis):
Both sterling and gilts are experiencing historic declines today. We are surprised to read some market commentary in the last few hours suggesting that the appropriate monetary policy response to this extreme market volatility is for the Bank of England to reverse its planned gilt sale.
In our opinion, such a political response would make matters worse. The market is giving very strong signals that it is no longer willing to finance the UK’s external deficit position with the current setup of UK real yields and the UK exchange rate. A monetary policy response to prevent the bonds from being sold would not only prevent the rise in real yields needed to attract foreign buyers, but would lead the central bank perilously close to a path of fiscal dominance: a situation in which policy decisions fiscal authority (large fiscal spending) and its consequences (higher returns), dominate the central bank’s primary inflation target.
In this author’s view, the necessary policy response to what is happening is clear: a big intersessional rate hike by the Bank of England as soon as next week to regain credibility with the market. And, a strong signal that it is willing to do “whatever it takes” to bring inflation down quickly and real yields into positive territory.
Great, great, great. So, err, hands in the sky if you’re getting that Friday feeling.
If it is too much, we indicate alternative options.