(Bloomberg) -- It was announced as almost a footnote. But a change to the way the Bank of England’s bond portfolio is managed has freed up as much as £10 billion ($12.7 billion) for UK Chancellor Rachel Reeves in coming years, helping to keep a lid on borrowing.
Reeves wrote to BOE Governor Andrew Bailey on Tuesday to agree that the cash buffer held to protect the central bank against unexpected losses on its holdings should be “slightly recalibrated and reduced.” It means the Treasury will transfer less money to the BOE as the reserve is allowed to run down.
The saving threw Reeves a financial lifeline in her budget last month, giving her some extra headroom as she ramped up spending on infrastructure projects and public services. She left little margin for error against her own fiscal rules.
Deutsche Bank AG estimates Reeves could save between £5 billion and £10 billion through to early 2029, when the next election must be called. It would only be a temporary cash injection, though, with the huge lifetime costs associated with the portfolio little changed. Neither the BOE nor the Treasury disputed Deutsche’s calculation but provided no further details.
“The changes mark a short-term boost to the Treasury’s coffers,” said Sanjay Raja, chief UK economist at Deutsche Bank. “It’s unclear why the BOE and HMT are so tight-lipped with regards to the changes.”
The arrangements relate to a 2009 agreement under which the Treasury covers any losses on the £875 billion of gilts the BOE acquired to shore up the economy over 12 years that spanned the global financial crisis, the Brexit vote and the pandemic.
Those losses have been piling up since 2022, due to higher interest rates and losses on the bonds themselves as the BOE unwinds its portfolio by letting some gilts expire and by actively selling others. The Office for Budget Responsibility now assumes that, instead of maintaining a fixed amount in the buffer, the BOE will gradually trim the cash buffer in line with the size of the portfolio and therefore reduce the quarterly losses for the Treasury. The portfolio currently stands at £655 billion. The OBR factored the change into its forecasts for Reeves’ budget.
“The significant reduction in active sales announced in September, alongside the smaller overall size of the APF, reduces the variability of cash flows and makes the required cash buffer smaller,” a BOE spokesperson said, in explaining the decision to change the cash management arrangement.
A Treasury spokesperson said: “As the APF unwinds, the size, timing, and nature of cashflows has changed. This has changed the need for cash to be held in the APF as a buffer as a result the Bank and HM Treasury have agreed that the level of cash held in the APF should be slightly reduced. This is simply an operational change.”
Office for National Statistics data suggest the buffer was upwards of £10 billion. Neither the Treasury nor the BOE would comment.
The shift will deliver “value for money” for taxpayers, Reeves and Bailey wrote in an exchange of letters earlier this week. It was the latest show of support for the chancellor from the governor, who last week dismissed the market turbulence that followed her budget as an “orderly reaction” and said the inflationary impact of her plans would not stop the bank cutting interest rates.
Reeves has already used up the extra savings, which were incorporated into her budget on Oct 30. She met her strict fiscal rules with just £9.9 billion to spare, a margin that has been wiped out by the increase in market borrowing costs following her big-spending budget and the election of Donald Trump as US president.
The switch has echoes of 2013 when then-chancellor George Osborne raided the profits the BOE made on its quantitative-easing portfolio, sweeping £35 billion to the Treasury and then spending the proceeds. At the time, Reeves, then in opposition, described the move as “smoke and mirrors” that would “fool nobody.”
“The APF is a politically sensitive subject,” Raja said on the lack of transparency. “The Treasury and BOE will likely be treading carefully when it comes to any operational changes with regards to the indemnity payment transfers.”
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