Friday, 13 November 2009

Can UK Treasury maintain business as usual with sterling and gilt market?

The Daily Telegraph has a good article on the implications for the UK government of Fitch expressing concerns about the AAA rating relating to its sovereign debt.

It is worth contemplating the possibility that the current paralysis in decisive policy recommendations, as a result of the pre-election posturings of both the UK's main political parties, is beginning to cause some anxiety not only amongst gilt traders in the UK, but is also attracting more attention from the ratings agencies who are renowned for their patience and stoicism.

According to HSBC, the Bank of England’s gilt purchases account for around 90 per cent of gilts issuance in the financial year 2009/2010. However, as QE purchases subside, there is likely to be an increase in purchases by banks in order to meet the new liquidity buffer measures which are being phased in globally to try to reduce risk in the banking system.Fortuitously enough, among all the global regulators, the Financial Services Authority is being the most proactive in its requirements and HSBC reckons that if these measures are implemented, banks could purchase around 60 per cent of gilts issuance in the next fixcal year. “Bank demand for gilts is … liekly to siphon off a large proportion of supply over the next few years at least,” according to Andre de Silva, HSBC strategist. Even a downgrade would not change that dynamic.

But neither is that sort of technical support likely to be enough in the even of a prolonged political failure to tackle the fiscal situation.

“We have no choice about whether to tighten fiscal policy,” says Michael Saunders, UK economist at Citigroup. It’s a question of whether we do so before or after a crisis.”


As is often the case with the UK, it may take a full blown sterling and/or gilt crisis before the politicians come clean with the public and articulate the unpleasant prescription for the growing crisis in the public finances.

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