Wednesday, June 12, 2013

Bank of England's Andrew Haldane: Central bank created bond bubble threatens financial system

In his testimony before Parliament, the Bank of England's Andrew Haldane made clear that the greatest threat to financial stability was the central bank zero interest rate/quantitative easing induced bond bubble.

Regular readers know that Mr. Haldane is accurate in his assessment and that the pursuit of ZIRP and QE was totally and completely unnecessary as a response to the bank solvency led financial crisis.

As your humble blogger has been saying since before the financial crisis spiraled out of control in 2008, the way to deal with this crisis is to adopt the Swedish Model and require banks to absorb upfront their losses on the excess public and private debt in the financial system.

Please note, the only way to end Mr. Haldane's concern about unwinding ZIRP and QE and triggering financial instability is to adopt the Swedish Model with a twist.  The twist being that the banks "pay" for their having been bailed out by "donating" their holdings of government securities to the issuing sovereigns.

Will this make the vast majority of banks have low or even negative book capital levels?

Yes, but modern banks are designed because of the presence of deposit insurance and central banks to be able to continue operating and supporting the real economy when they have low or negative book capital levels.  They can do so because with deposit insurance the taxpayers act as the banks' silent equity partners.

A key Bank of England policymaker has warned of the risks to global financial stability when "the biggest bond bubble in history" bursts. 
In a wide-ranging testimony to MPs, Andy Haldane, Bank of England director of financial stability,... told the Treasury select committee that the bursting of the bond bubble – created by central banks forcing down bond yields by pumping electronic money into the economy – was a risk "I feel acutely right now"....

But he described bond markets as the main risk to financial stability. 
"If I were to single out what for me would be biggest risk to global financial stability right now it would be a disorderly reversion in the yields of government bonds globally." he said. 
There had been "shades of that" in recent weeks as government bond yields have edged higher amid talk that central banks, particularly the US Federal Reserve, will start to reduce its stimulus. 
"Let's be clear. We've intentionally blown the biggest government bond bubble in history," Haldane said. "We need to be vigilant to the consequences of that bubble deflating more quickly than [we] might otherwise have wanted."

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