LONDON (MNI) – The UK Treasury had received the Office for Budget
Responsibility’s draft fiscal forecasts, which were widely expected to
show it would miss the debt target, when it announced last Friday that
gilt coupon cash would be transferred to it from the Bank of England’s
Asset Purchase Facility.

BOE Governor Mervyn King came in for sharp questioning at the
Inflation Report press conference Wednesday over the timing of the gilt
coupon transfer news, as it came less than a month before Chancellor of
the Exchequer George Osborne unveils his budget statement. The Treasury,
however, has been the driving force behind the coupon move although
King was involved in talks on it in recent weeks.

The move will see some stg37 billion in the first year alone
transferred from the BOE to the Treasury. Coming so close to Osborne’s
December 5 Autumn Statement it has drawn sharp criticism, and questions
about the BOE’s independence from some City economists and sections of
the media.

At Wednesday’s press conference King was asked why, as someone who
has a reputation for being “very politically savvy”, he seemed “so
unconcerned (about) … the timing of the arrangement on gilt coupons.”

In response, the BOE Governor placed the responsibility for the
move and its timing firmly with the Treasury.

“We do defend Central Bank independence when it matters. But this
is a question about the timing of cash flows for the Treasury,” King
said.

“It’s their responsibility; it’s their decision; they indemnify the
whole of the APF. I think they’re perfectly entitled to take that
money,” he added.

From King’s point of view the move does not infringe on the central
bank’s freedom to set monetary policy as the Monetary Policy Committee
simply has to factor the extra stimulus provided by the transfer into
its forecasts and policy making.

“We know that this (coupon transfer) is equivalent to a certain
amount of asset purchases and we will offset that in the scale of
purchases that we would otherwise have made,” King said.

Instead of doing another slug of QE in November, the MPC chose to
leave policy on hold. The decision reflects the fact the coupon
transfers, by boosting the public finances and cutting projected gilt
issuance, will have the same, or at least a very similar, effect to
stg37 billion of BOE gilt purchases under ‘conventional’ QE.

Ever since QE was launched back in 2009, the Treasury could, and
with hindsight probably would, have chosen to transfer gilt coupon
payments from the APF to itself. Effectively, one arm of the state has
been paying interest to another arm, and the move simply reverses the
process.

Where observers have been skeptical is not about the logic of the
decision but about its timing.

One factor in the timing was the desire to make the announcement
after the end of this month’s MPC meeting, on November 8.

The decision also came at a time when Treasury officials were
fully aware of how the public finances were stacking up in the view of
the independent OBR.

Two months before a Budget, or Autumn Statement, the OBR sends the
Treasury its draft forecasts. Treasury officials then have up to ten
days before the Budget day to submit the policy measures the Chancellor
plans to unveil, so these can be factored into the OBR’s forecasts.

If the public finances are not on track to meet the debt or deficit
rules, the Treasury can submit new revenue raising, or spending cut,
proposals to the OBR to get them back on track.

The Treasury announcement on coupon transfers fits into this
framework.

The actual impact on the public finances and the OBR forecasts is
uncertain, because the National Statistics Council has yet to rule on
how it will treat the transfers.

We know, however, that the Treasury has said it will use the money
to pay down debt and lowering gilt issuance entails that for any
given level of GDP the debt/GDP ratio improves, boosting the chances of
meeting the debt rule.

Before the transfer news, there were widespread media reports the
Treasury would miss its debt target but since it some analysts
have switched their calls and not expect the OBR to say the finances are
on track to meet the target – of having debt on a declining path in
2015/16.

National Statistics is expected to announce shortly the date at
which it will make a ruling on the issue.

The OBR should then have time to fully quantify the impact of the
coupon transfer, alongside any other fiscal measures Osborne plans to
unveil on December 5, such as welfare cuts or tax changes.

What is trickier for the OBR is that it has said it will quantify
the possible impact of the decision and “to give a full picture, we will
do so over the full potential lifetime of QE and not just over our usual
five year forecasting horizon.”

From a forecaster’s point of view, that raises problems over what
the baseline scenario is, with so much uncertainty over the extent and
duration of QE.

-London newsroom: +44 207 862 7491; email: drobinson@marketnews.com.

[TOPICS: MABDS$,M$B$$$,M$$BE$]