Tempting as it is to write on the latest doings of the UKIP folk, I feel it is being so well covered currently by GLW, Junius & Democracy Forum that I can add nothing to the debate for the time being.
One headline that struck me from Monday's Business Telegraph was, "Lenders face interest rate cut on reserves", a kite flown by the Governor, Mervyn King, to include even negative interest rates according to an original and best member of the MPC, Charles Goodhart. I had a good chortle at this but first a little tutorial. The Bank of England is the bankers bank. All the major banks have accounts at the BoE and settlement of debts between banks takes place over the BoE books. Banks that do not have an account with the BoE have to have an account with a bank that does. Hence all debits and credits drain into the BoE just as all almost all rivers drain to the sea.
Banks are not allowed to have overdrafts with the BoE hence all their accounts have to be in credit. This used to happen on a daily basis but since 2003 an average credit balance over a four week is all that is needed. This 'modernising reform' came about with the influx of new blood at the top of the bank and the departure of the old, Eddie George, guard and brought us into line with, yes, ECB practice. The public reason was to curb volatility in the overnight rate that under the old daily square system meant banks sometimes had to borrow large amounts overnight to be in credit at the BoE. Another reason was to reduce the frequency of BoE market operations from a possible 4 times a day, like Jack Kennedy, to once a week, more in keeping with MAK.
In order to persuade the banks to buy the new system the BoE said they would remunerate bank deposits left on their books overnight at 1% under repo policy rate. Under the old regime bank deposits left at the BoE overnight were unremunerated i.e. zero interest. This had led to the market being manipulated by one or two major players who by building up a monopoly short postion could pick off the many small longs and force them to lend well below the policy rate or less usually, build up a monopoly long postion and force the small shorts to borrow from them at well above repo.
This was undesirable certainly but it did force banks to lend to each other! A price worth paying for inter-bank liquidity, one might say. And what was the major cause of the credit crisis in the UK? Banks refusing to lend to each other because of credit concerns. So what did long banks do with their money? They safely left it at the BoE at 1% under policy. And the short banks? Well they sweated their small business customers , cut back on their lending and abracadbra you have a credit crunch.
Well I suppose its nice to know that MAK has seen the light but it would be better if they owned up to the part they played in formenting this human tragedy. Eddie George was always strongly opposed to remunerating bankers balances as they are called in the BoE. It was a nice little earner for the BoE but it did get the money moving between banks. What of the people of experience who knew the reasons and arguments against remuneration. Well, they were all gone and Youf had its day but in retrospect the old guard, as Napoleon knew, had its uses.
The worrying thing is that this scenario is being played out most boardrooms in the land. Northern Rock only became Northern Wreck after the long serving Finance Director retired and Applegarth had a free hand with his new FD he had appointed. Youf has its place but needs to be buttressed by experience to avoid predictable disaster.
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