Friends, advisors, clients, counterparties: it’s almost over.
By Friday we’ll have emerged from the tyranny of the Brexit campaign into a brave new world where either: a) things will be the same and we’ll still be arguing about it; or b) things will be the same but we’ll be arguing about it in Brussels and maybe there’ll be less immigration, eventually, who knows.
In the meantime, the Civil Service is trying to remember what trade negotiations are like; currency traders are girding their loins for an orgy of volatility; and the FX strategists over at Credit Suisse are looking back to Black Wednesday for clues on just how royally screwed (or Absolutely Fine) we’ll be in the event of a Leave vote and subsequent sterling crash.
Namely, in the event the Bank of England decides to intervene in the currency markets to protect the pound, will it be successful and can it depend on help from the Fed, ECB and BoJ?
First some Black Wednesday history, chartified: Read more
By Morgan Stanley, do obviously click to enlarge:
Here begins a tale of how the Bank of England’s settlement system got broken without anyone really noticing…
On October 20 2014, the BoE suffered an embarrassing collapse of its real-time gross settlements (RTGS) system, forcing it to revert to manual processing for large payments such as CHAPs for about a day.
At the time, Bank personnel, bankers and the market in general passed the incident off as largely a technical issue, like a site falling down or a regular IT fail. Nothing to lose sleep over.
But the incident was arguably much graver than that. A long-standing RTGS collapse would have constituted nothing less than a systemic collapse of the sterling monetary market with potentially catastrophic consequences for the UK economy. Think human sacrifice, dogs and cats living together, mass hysteria. That sort of thing.
Also never pointed out at the time was how the events of 20 October 2014 linked back to the banking crisis of 2008. Read more
Who leads whom in the interest rate market?
Or as Eugene Fama asked it in a paper in 2013, does the Fed really control interest rates?
The University of Chicago economist’s work concluded that there are a lot of forces affecting rates, where the Fed is only one small part. In fact — as this Chicago Booth comic illustration of the entire debate neatly summarises – his research concluded that up to 83 per cent of the Fed’s target rate is influenced by other short-term rates in the market. Read more
This is a Google Map of the City of London:
It’s a “square mile” because back in the day — before phones, fax machines or the internet was invented — representatives from the key settlement banks had to gather in person to net and settle outstanding debts and claims against each other (a mile essentially being about as far as messengers could be asked to travel in a day). Read more
With a big h/t to Faisal Islam, here’s what the Bank of England was thinking at the start of September and just before that IMF loan in 1976 (do click through for the full thing):
We know central banks have the power to support asset classes and to move markets, and do so frequently in the name of financial stability.
But are there other social threats that could be stabilised or mitigated by central banks in a similar way?
For example, should central bank monetary policy be charged with a green agenda? Should central banks take it upon themselves to encourage and support the formation of liquid environmentally-focused markets? Read more
The UK did worse than almost every other developed economy from 2007-2012 but has been among the best performers since the start of 2013. Slightly out-of-date chart via the Reserve Bank of Australia:
What gives? According to a new analysis from Goldman, this demonstrates both the damage to the UK’s banking system after the crisis and the subsequent power of credit easing, specifically the magic that was worked on bank credit spreads after Mario Draghi uttered his priestly incantation in July, 2012: Read more
We’re trawling through the BoE’s 2007-2009 disclosures in search of geeky insights into what actually goes through the minds of central bankers on an operational level during a liquidity/banking crisis.
First up, from the 2007 batch, the BoE’s dilemma about how best to compensate for the liquidity it was dishing out to Northern Rock, when it didn’t have too much in the form of a gilt stash for use in wider open market operations.
This from the committee of non-executive directors meeting on November 15, 2007, (our emphasis): Read more
Today we get the minutes of the BoE Court from June 2007- May 2009 (minus a redacted 3 per cent, of course).
apologia news release gives a hint of what’s to come:
In the period covered by these minutes the Bank was operating within the statutory framework established in 1998. Court was much larger than the present Court, a number of members had standing conflicts of interest, and there was no provision for a non-executive chairman (to compensate for that, the Governor established the practice of having all Court business discussed first in the non-executive directors’ committee). At the time, the Bank had no powers to take actions to manage macro-prudential risks. It was not responsible for banking supervision and there was no bank resolution authority. The roles, in a crisis, of the Bank, the Treasury and the FSA were ill-defined. These deficiencies were rapidly identified during the period covered by the minutes, and were addressed both by the 2009 Banking Act and subsequently by the 2012 Financial Services Act, which radically changed both the role of the Bank and the structure of its governance.
Click here for the actual PDFs. Read more
Do click through for the full thing — the Co-Op is the loser of the bunch and was told to hand in a new capital plan that “envisages a reduction in its risk-weighted assets of £5.5bn by the end of 2018, notably by selling some subprime mortgages.”. RBS and Lloyds were near misses:
From the report:
The stress scenario featured an initial shock to productivity, which led to an abrupt reassessment of the prospects for the UK economy.
Fears are growing that the next crisis, if it should manifest, won’t come from any of the areas that spawned the 2008 crisis. To the contrary, it will emerge from areas we’ve not really had to worry about to date.
The key areas those in high places are now worrying about: the taken-for-granted presumed liquidity of the system.
This is an easy assumption for the asset management industry to make. For years investment banks have made a business of carrying liquidity risk on their balance sheets, mainly by internalising the inventory nobody else is prepared to hold. This sort of “we’ll buying anything just to make money from making markets” service as a result conditioned the buy-side to presume liquidity risk is something that just doesn’t really manifest anymore. Read more
On Monday Mark Carney, Bank of England governor, injected fear into the hearts of highly paid bankers everywhere by stating…
Standards may need to be developed to put non-bonus or fixed pay at risk. That could potentially be achieved through payment in instruments other than cash. Bill Dudley’s recent proposal for certain staff to be paid partly in ‘performance bonds’ is worthy of investigation as a potentially elegant solution. Senior manager accountability and new compensation structures will help to rebuild trust in financial institutions. In a diverse financial system, trust must also be rebuilt in markets.
His comments came on the back of growing regulatory concerns that banks avoid bonus caps by boosting fixed salaries and so offer less variable pay, weakening the link between performance and compensation. Read more
The latest edition of the BoE’s quarterly bulletin looks at the rise of cryptocurrencies and, as we’ve already discussed, expresses a cautiously optimistic attitude towards the technology that drives the system. Less so, however, about the potential of “bitcoin the currency” itself.
In this post, we’d like to look closer at the issue of cost and digital currencies.
Monitoring and supervising the global claims system is an expensive business. It takes a lot energy and resources to make sure wealth is allocated fairly to those who supposedly deserve it.
Hence why those who do the job must be compensated in some shape or form by society.
Yet, it is also the case that society tends to be quite fussy about who it entrusts such an important job to. For example, when trust in private institutions is low, society tends to prefer to use commodities to keep abreast of who owes what to whom. Alternatively, it turns to the liabilities of sovereign nations that have a proven track record of good economic management. Read more
Here’s an interesting point from Capital Economics’ Roger Bootle on Tuesday regarding a potential Scottish currency union. They could go down the unilateral adoption route.
To recap, independent Scotland wants to keep the pound via some sort of currency union, ideally based on the BoE continuing to accept Scottish assets as collateral in exchange for sterling liquidity.
The UK, however, is not willing to accept this because it would mean unrestricted UK support for Scottish banks, which may or may not now be regulated to the same standards. Read more
Alternative currencies are being issued left, right and centre these days. So what’s stopping Scotland issuing its own currency? (Did you not know that Spain already has SpainCoin?)
Well, what most people don’t realise is that Scottish institutions already issue their own currency because the Scottish pound is already a private currency. Nobody notices, however, because it’s so sophisticatedly pegged to the Bank of England pound thanks to Scottish banks being part of the BoE central bank system and collateralising every note they issue with a sterling asset of some sort.
For as long as the Scottish banks have the sterling collateral needed to maintain the 1:1 valuation, there is no reason for the value of the Scottish pound to disconnect from that of the UK pound. Read more
UK chancellor George Osborne announced on Monday that the Bank of England will initiate a scheme to help support export finance for UK exporters.
This, as the BoE explains on its website, will see the Bank accept UK Export Finance-guaranteed debt capital market notes as collateral for liquidity operations, encouraging (it is hoped) banks to make export-finance related loans to industry. So, similar to funding for lending, but on this occasion specifically lending to export businesses. Read more
The ECB’s deflation problem has been well covered.
Years of mass media conditioning that the UK has an inflation problem, however, have assured that the BoE’s flirtation with disinflationary pressure has by and large been overlooked.
But there are clues that this might become a problem soon enough. Read more
The transition to a new normal monetary policy, by David Miles, Monetary Policy Committee member, click to read in full
So just how fast will the the Bank of England raise interest rates? For clues and pointers on its latest thinking now that employment has rapidly approached the thresholds (markers, thumb rules?) of forward guidance , the Inflation Report is out. Click to get straight to it:
We know that living in a counterintuitive zero-rate world can lead to lay misunderstandings.
For example, there’s the paradox of thrift and the idea that saving can be bad. WHAAT? Then there’s asset nationalisation and government spending, and the idea these can be good for capitalism. WHAAT REALLY? Last and not least — after years of general indoctrination that inflation is always bad — there’s the fact that inflation can actually be a good thing.
This presumably explains why, when the ONS announced this week that UK CPI had slowed to 2 per cent, the story was almost universally covered in the UK press as a good thing and a sign of a wonderfully encouraging turnaround in the economy.
Indeed, UK chancellor, George Osborne, was immediately wheeled out across numerous networks to take credit for his fabulous economic work. Read more
As Mark Carney outlined at Wednesday’s press conference for the BoE inflation report, much-awaited ‘forward guidance’ will be linked to unemployment falling through the 7 per cent level. But it will also in some sense be related to the committee’s evaluation of how much slack there is in the economy.
Or rather, they’re linking rates to unemployment (targeting, in everyone else’s book) because they can’t explicitly target slack. Read more