Ex-Bank of England Deputy Governor Paul Tucker on how quantitative easing has exposed government finances to rising interest rates
The cost of the Reserve Bank's buy-up of government bonds during its 2020-2021 quantitative easing (QE) programme has come into focus as interest rates have risen.
Notably the balances of exchange settlement accounts held by banks and others with the Reserve Bank soared as the central bank bought government and local government bonds off banks in the secondary market, peaking at $56.4 billion last December after averaging about $7.5 billion in the decade up to 2020.
Holders of the settlement accounts receive interest on their deposits at the Official Cash Rate (OCR), which has risen to 5.25% since the 0.25% Covid low.
Treasury says its best estimate of the expected direct fiscal loss from the Reserve Bank's QE, its so-called Large Scale Asset Purchase (LSAP) programme, is about $10.5 billion. It notes this has been partially offset by the fiscal benefits of the LSAP through stabilising the NZ government bond market and providing economic stimulus at a time of heightened uncertainty in 2020.
From a whole-of-government perspective Treasury says the LSAP withdrew fixed-rate government bonds from the market and replaced them with floating-rate settlement cash balances. This means the Crown has more floating rate liabilities, becoming more exposed than it would have been to rising interest costs.
In the latest episode of interest.co.nz's Of Interest podcast Paul Tucker, former deputy governor of the Bank of England and now a research fellow at the Harvard Kennedy School, speaks about the impact of QE on the public finances. Tucker's also the author of a recent paper called Quantitative easing, monetary policy implementation and the public finances.
"This has turned out to be a bad thing in many countries specifically because of how low world interest rates were during 2020 and 2021. Although it was essential for governments to protect families and protect small firms from the ravages of Covid and economic lockdown during 2020 and 2021, they would actually have done better to finance that by borrowing in the markets because long-term interest rates were remarkably low for states with a good credit rating, which includes my own and includes yours," says Tucker.
"Instead they exposed themselves to the path of short-term central banking interest rates."
Speaking to interest.co.nz on Thursday, BNZ Chief Financial Officer (CFO) Peter MacGillivray said BNZ currently has about $10 billion in its settlement account. And on Friday ANZ NZ CFO Amanda Owen said her bank's settlement account balance would be bigger than BNZ's.
Asked whether receiving interest at the OCR would now be lucrative for settlement account holders Tucker says; "Broadly yes. It depends on whether they pass it on to their customers. The banks are sitting on this large pile of cash with the central banks and suddenly that's paying a healthier rate of interest."