The Bank of England has begun pumping £75bn in newly-created money into the ailing economy by buying £2bn in Government bonds.
Policymakers on the Bank’s Monetary Policy Committee (MPC) have decided on the ground-breaking course of quantitative easing (QE) — effectively printing money — to boost the money supply and encourage lending.
Interest rates have been slashed to a record low of 0.5%, but the MPC thinks more needs to be done to lift the UK out of recession and can create up to £150bn in new money if necessary.
Under the first tranche of QE, the Bank will buy up Government gilts through twice-weekly auctions on Mondays and Wednesdays.
With £75bn to spend over three months, the Bank will be buying around £5bn a week on average but it could increase the size of auctions if the funds are over-subscribed with would-be sellers.
Pension funds and other institutional investors which hold Government gilts for their steady returns are likely to sell the bulk of the assets being bought up by the bank.
This new money will be placed in their accounts with UK banks, boosting the banks’ deposit bases and — hopefully — allowing them to go out and lend more in the wider economy.
The Bank will buy up the bonds through its Asset Purchase Facility, which has also been buying up commercial paper — effectively corporate IOUs — financed so far by the sale of Treasury bills.
This process of buying up private sector debt will go on, but purchases will instead be financed by central bank money.
But the success of QE will |depend on the extent to which banks lend the newly-created money, economists say.
Jonathan Loynes of Capital Economics said: “In theory, the ‘multiplier’ effects are potentially very powerful and could turn the initial £75bn of asset purchases into a sharp rise in nominal GDP.
“But these effects are likely to be very muted in the current economic environment, as banks decide to hoard a proportion of the rise in their reserves and firms and households sit on cash rather than spend it. If so, the impact of the policy could be almost negligible.”