People here are misunderstanding modern banks

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Re: People here are misunderstanding modern banks

Postby RogerGLewis » Tue Sep 20, 2011 11:00 am

Graham Hodgson wrote:
RogerGLewis wrote:I can't help but think that additional levels of complexity are camouflage rather than of necessity


On the contrary. Obfuscation, distraction and the aura of esoteric knowledge are the prime essentials of modern finance. How else to explain the necessity to pay such massive stipends?


I think we are saying the same thing Graham at least I agree with your first sentence and laughed at your second.

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Re: People here are misunderstanding modern banks

Postby DodgyDave » Tue Sep 20, 2011 4:44 pm

Graham Hodgson wrote:
queuingpolitely wrote:The red book mentions
The MPC sets a target for the stock of asset purchases financed by the creation of reserves
It continues that
The Bank purchases these assets predominantly from non-banks, but banks act as intermediaries in the process. The Bank pays for the assets purchased by creating central bank. reserves and crediting the accounts of the banks that act as intermediaries. Those banks will in turn credit the accounts of the non-banks from whom they obtained the assets.


the APF has purchased £200 billion of assets by the creation of central bank reserves. I would assume these were mostly from Pension funds and similar - do you have any links or data?
...
One thing is clear though its a massive Ponzi scheme.


You've done considerably more research on this than I have so I can't assist with more detail, I'm afraid.

Your second Red Book quote surprises me. My understanding all along was that the purpose of QE was to provide banks with extra reserves which politicians and their advisers fondly believed would act as a springboard for accelerated lending into the economy through some kind of automatic multiplier effect along the lines of:

    Bank loans(historic) divided by bank reserves(historic) equals c,
    therefore bank reserves(future) multiplied by c gives bank loans(future).
    Terms and conditions apply. The past is not a reliable guide to the future. You may not get back as much as you invested.

Your assumption regarding the source of the assets is enlightening. If pension funds and insurance companies (who didn't need the reserves) supplied the assets to banks (who did) via repo transactions (earning a slice on the side), which the banks then sold on to the APF Fund, then that would explain what happened to all the new money. The banks had to use it to buy replacement assets for the pension funds and insurance companies when the repo terms expired.

Not quite the Ponzi scheme the legislators intended, more of a total farce.


It's my understanding that almost all of the QE funds were used to purchase gilts (UK Government bonds). In other words, the BoE took gilts from the market (held by banks, pension funds, private investors et al) and handed these bond-holders liquid cash. The result was a drop in gilt yields and lower Government outlay on interest for it's borrowed money, plus an increased capacity to borrow for the Government (to make up that 160 odd billion quid deficit).
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Re: People here are misunderstanding modern banks

Postby queuingpolitely » Wed Sep 21, 2011 7:50 pm

Does anybody know if the BoE recieves the interest on the Gilt from the Government?
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Re: People here are misunderstanding modern banks

Postby Graham Hodgson » Thu Sep 22, 2011 11:46 am

queuingpolitely wrote:Does anybody know if the BoE recieves the interest on the Gilt from the Government?


Yes. This is used to finance the Bank's operations. 50% of excess revenue is remitted to the Treasury in lieu of dividend. There is a useful summary here: http://www.bankofengland.co.uk/publications/annualreport/2011/financialreview2011.pdf. (The Treasury receives 100% of the profit from banknote issue.)
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Re: People here are misunderstanding modern banks

Postby Graham Hodgson » Thu Sep 22, 2011 12:05 pm

DodgyDave wrote:It's my understanding that almost all of the QE funds were used to purchase gilts (UK Government bonds). In other words, the BoE took gilts from the market (held by banks, pension funds, private investors et al) and handed these bond-holders liquid cash. The result was a drop in gilt yields and lower Government outlay on interest for it's borrowed money, plus an increased capacity to borrow for the Government (to make up that 160 odd billion quid deficit).


I think the BoE bought a variety of assets under QE and other schemes related to the crisis, including corporate bonds and the AAA rated tranches of banks' own mortgage-backed securities (not the second-hand ones of other issuers), in exchange for reserves which the banks themselves used to buy gilts. So the BoE took on the riskier assets which the banks replaced with Government bonds, driving up the price of gilts and hence reducing the prospective yields and, as you say, making future borrowing by the Government cheaper.
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Re: People here are misunderstanding modern banks

Postby queuingpolitely » Thu Sep 22, 2011 1:55 pm

Interesting analysis Graham the research I have done I reached a different conclusion. But then getting the answer is never easy which is why it’s great to speak with others on here.

Again my understanding is that QE was broken into two. £50 Billion of Private sector assets financed by Treasure Bills and DMO cash management operations and £200Billion financed by the creation of central bank reserves. This was loaned to the APF in the form of a loan from the BoE.

Net purchases less redemptions and sales of gilts have been £198.3 billion (2010: £198.3 billion), commercial paper £nil (2010: £0.2 billion), secured commercial paper less than £0.1 billion (2010: £nil) and corporate bonds £1.3 billion (2010: £1.5 billion)

The Settlement Banks themselves only acted as middle men, not purchasing or owing any Gilt’s. The BoE red book said the BoE was acting as the Market maker of last resort.

It seems to me that the BoE purchased the Gilt’s, what are your thoughts?
EDit: Should add here that on the BoE annual report is shows: The balance sheet of the Company stood at £209.7 billion at 28 February 2011 (2010: £200.0 billion).The fair value of the Company’s holdings of securities was £197.9 billion (2010: £194.5 billion), of which £196.5 billion represented gilts (2010: £192.8 billion). This is why I assume the BoE hold the Gilt's the Settlement Banks received the CR money increase, a Gift in effect. Oh plus the fees...of course on cant forget the fees, how we get our commision and bonus.

For the other aspects the BoE purchase the CP at a minimum spread over risk-free rates, newly issued CP in the primary market via dealers, and after issuance from other eligible counterparties in the secondary market. Purchases under the Facility may be financed by advances to the Bank from the Debt Management Office and, with authorisation by the Monetary Policy Committee, by central bank reserves. Again the BoE takes the CP and funds through Central reserves.

Also in the statement of Comprehensive income the BoE shows £44Million on Interest receivable. About £11millon of this is due to the Treasury? Again is this not peter paying paul. Or just keep moving money around.
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Re: People here are misunderstanding modern banks

Postby Graham Hodgson » Fri Sep 23, 2011 12:28 am

queuingpolitely wrote:... the BoE purchase ... newly issued CP [commercial paper] in the primary market via dealers, and after issuance from other eligible counterparties in the secondary market.

This basically resolves into firstly the BoE lending directly to companies (buying at a discount newly issued corporate bonds from the companies' underwriters) and secondly re-financing banks (eligible counterparties) by buying off them at prevailing market prices (less a haircut) the corporate bonds that the banks have acquired.

queuingpolitely wrote:It seems to me that the BoE purchased the Gilt’s, what are your thoughts?

queuingpolitely wrote:The balance sheet of the Company stood at £209.7 billion at 28 February 2011 (2010: £200.0 billion).The fair value of the Company’s holdings of securities was £197.9 billion (2010: £194.5 billion), of which £196.5 billion represented gilts (2010: £192.8 billion)

The BoE's accounts for its APF subsidiary would appear, on superficial reading, to suggest that nothing has happened since QE, except that the APF has continued to collect income from the assets it acquired. I suspect, however, that its principal role has been to find buyers for the assets acquired under QE and replace them with gilts purchased in the secondary markets (the BoE and its subsidiaries are not allowed to purchase gilts directly from the government). It may be that this all happened in January 2010.

queuingpolitely wrote:the statement of Comprehensive income the BoE shows £44Million on Interest receivable. About £11millon of this is due to the Treasury

Now is this due, ie payable, to the Treasury, or due, ie in consequence, from the Treasury. The Treasury receives 50% as of right of all BoE income in excess of its expenditure.

I'm afraid I can only conjecture on these issues, since I have done very little research on the Bank of England's balance sheet. I have, however, spent a considerable amount of time delving into the balance sheets of the high-street banks and building societies.

High street banks' and building societies' holdings of gilts (British government securities other than Treasury Bills) leapt £25bn after Lehmans (September 2008) from a short position of £7bn (yes, the UK banks were shorting the UK) in August 2008 to £18bn long in November, then climbed slowly to £112bn last July (+119bn). Holdings of Treasury Bills (short-term Government borrowings) jumped from £9bn to £15bn (+6bn) after June 2009, peaking at £23bn in December 2009 before dropping back. Reserves held at the BoE doubled in the weeks after Lehmans from £25bn, then again in May 2009 from where they continued to climb to around £113bn today (+98bn).

Over the period August 2008 to July 2011, total sterling assets at high street banks moved from £3.3tn to £3.7tn, peaking at £4tn in January 2010 (QE) before then dropping back, an overall increase of £400bn, double the increase due to QE. £223bn of this appears to be related to the measures put in place by the Bank of England by which banks were enabled to acquire UK government debt (£125bn) and central bank reserves (£98bn). A further £120bn of this was due to renewed Ponzi scheme interbank lending (one bank lends a million to a second: one million acquired in loan assets, the second lends it to a third: a second million acquired in loan assets, the third lends it to a fourth: a third million acquired ..., etc. etc.). The remaining £57bn represented "genuine" growth (profits from the monopoly on money creation).

The presumption must be that QE and the other measures the Bank of England introduced in response to the crisis "in order to get banks back lending to each other":
a) worked, a new bubble is inflating, and
b) allowed banks to offload riskier assets onto the Bank of England, which they may well have been able to offload in their turn, and replace them with cast-iron government stock.
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