10 Feb 2022

The rising cost of living is suddenly all over the news. The Bank of England is forecasting that inflation will rise to 7.25%. Transparently ineffective and arguably misleading measures have been taken to mitigate the raising of the ridiculous energy price cap. Talking of ineffective, the Governor of the Bank of England is calling for pay restraint. Excellent.

Political commentators have called for the abandonment of April’s proposed rise in the rate of national Insurance on the simplistic grounds that people will actually have to pay it. This is not unusual in the case of taxes. No one wins votes by being in favour of them. For some reason the Chancellor seems to have persuaded the Prime Minister to hold his nerve, for now. It’s almost as if Rishi Sunak understands the state of the nation’s finances. 

The nagging feeling that something is wrong and that “something must be done” causes excitement when there appears to be the chance to raise someone else’s taxes. Currently there is a call for windfall taxes for the oil companies who have had the effrontery to recoup in 2021 what they lost in 2020. BP and Shell are preparing to pay $16 billion in tax between them as it is (not all to the UK treasury) and the dividends they pay will be received by the pension funds that most of us own, directly or indirectly. 

The truth is that the scale of the national debt is too intimidating for proper public discussion.  

At the end of December the value of gilts in circulation was £2,011 billion (just over £2 trillion, as people like to say now when they want to intimidate with numbers that are nearly impossible to contemplate) of which 28% have been issued since March 2020 i.e. in large part due to the cost of the response to the pandemic. Over the twenty one Covid months government expenditure has exceeded its receipts by £467 billion and £563 billion has been raised in gilt sales. 

It may be that the treasury decided to take advantage of exceptionally low interest rates to sell as many gilts as possible.

The reason why rates have been so low for so long is mostly due to quantitative easing (QE), a policy pursued by the US Federal Reserve, the ECB, the Bank of England and other central banks around the world. 

In the UK, at least, it looks as if the game is over. All good things have to come to an end.


QE started in 2009 .Initially the justification was to prop up the prices of toxic assets held by the major banks to avoid the latter becoming insolvent dominoes, knocking each other out in turn. Or as the official explanation said at the time: 

“Purchases of assets by the Bank of England could help to improve liquidity in credit markets that are currently not functioning normally.”

In 2011 the message changed starkly: 

“The purpose of the purchases was and is to inject money directly into the economy in order to boost nominal demand”. 

In other words, QE was not rescuing just the doltish bankers but the entire economy. 

Sometime after that the Corbyn Labour party began to demand a People’s QE on the grounds that if there was apparently free money going it might as well be hosed over favoured political targets. How we sophisticates laughed. Could you ever imagine anything so irresponsible?

And then the great Covid panic was upon us and phase three of QE was rushed in. Quite swiftly, the size of the original market purchases was doubled and any pretence that it was for any reason other than to finance spending without restraint was dropped.

“The role of the Bank of England is to help to meet the needs of UK businesses and households in dealing with the associated economic disruption.” (March 2020)

The government borrowed to furlough jobs and actively encouraged people to hide from the world. It built hospital extensions that were never used and handed contracts to suppliers who, necessarily, had no track record of doing whatever it was that they were supposed to do, but a fine instinct for filling their own pockets. 

The differences between what has happened and Corbynism in action are twofold. First, a Corbyn government would never have dared borrow on such a scale and second far less of the spending spree would have been directed at keeping the middle classes comfortable and feeling “safe”.  


It is not just supply chain, commodity, retail, energy and tax costs that are rising. The cost of government debt is also soaring too.

In the 2021/21 financial year government interest payments were £39.4bn (something of a bargain – an average interest rate of just under 2% on two trillion pounds of gilts).

Around two thirds of the way through the current financial year interest payments were £43.4 billion, a pro rata increase of 65%.

So far, the reasons for the rising costs are twofold, I think. First the overall rise in the volume of issued gilts and second that investors have understandably been getting keener on index-linked gilts which reward holders when inflation rises. 

The treasury has been selling traditional short-dated gilts which have low coupons. For instance on each of 27 July, 24 August, 14 September, 26 October and 11 January it sold around £3 billion of a gilt, maturing in 2026, with a coupon of just 0.375%. Cheap money!

The catch is that the price at which investors are prepared to buy that gilt is understandably falling. And the ultimate cost to the treasury is rising. 

All conventional gilts redeem at par (100). At any time the price of the gilt is dependent on how its coupon compares to market interest rates and when it expires (how long it is until holders get paid out at 100). 

Back in July the Bank of England was able to sell the 2026 0.375% gilts at above par (100.215 to be precise) meaning that the redemption yield was just 0.33%. In September the price had slipped a little to below par (99.726) and the yield was 0.43%.In October the price was 97.98 (0.79% yield) and in January 97.146 with a yield of 0.99%.

This sounds like quite small beer but though yields are low by any standards the ultimate cost for the Treasury tripled (from 0.33% to 0.99%). Those same gilts are now trading at 95.45 and the yield for buyers is 1.38%. The period of cheap money for the government appears to be well and truly in the past.  

During those last twenty months of QE, the Bank of England’s Asset Purchase Facility was buying three gilts for every four that were issued. It was essentially an officially rigged market creating a long period of artificially low rates. I haven’t seen a single financial or political commentator who appears to have noticed that it’s over.

So what happens next? There appears to be no chance of more QE. The Bank of England is at last acknowledging that its gilt holdings will have to be wound down through expiration and conceivably even through market sales, though I expect to see flying pink elephants before those happen. 

Adding further to national debt will be expensive and arguably irresponsible. Unfortunately one of the legacies of the pandemic appears to be a heightened belief that the government is responsible for not only fixing everything but also paying for it. But the observation that the government doesn’t actually have any money has rarely been truer. 

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