MNI INTERVIEW: Banks Helpless Against Any BOE Reserve Change

Banks would have no legal recourse against any change to remuneration on their reserves held at the Bank of England, an academic who has advised the House of Lords on legal aspects of quantitative easing told MNI, commenting on a money-saving policy now promoted by two major UK political parties.

Any change to interest on reserves has been “pre-agreed by reserves account holders” as an action permitted under the Sterling Monetary Framework, Australian National University law professor Will Bateman said in an emailed interview.

While Chancellor of the Exchequer Rachel Reeves has ruled out compelling the Bank to change its rate of interest on reserves, she has been encouraged to move to a tiered remunerations system, similar to those operated by the Federal Reserve and the European Central Bank, by the left-leaning New Economics Foundation and the Institute for Public Policy Research. Under pressure to close a fiscal gap of at least GBP30 billion, she is instead reportedly looking at a levy on bank profits. (See MNI INTERVIEW: UK Needs To Slash Spending Share Of GDP- Chadha)

However, Reform UK, leading polls for the next general election due to be held by 2029, as well as the smaller Green Party, have based some of their fiscal hopes on eliminating remuneration on reserves or moving to a tiered remunerations regime. Reform last month reiterated calls for an urgent parliamentary debate on the cost of the BOE’s quantitative tightening and its remuneration of reserves. (See MNI INTERVIEW: UK Debt Stabilisation Insufficient - NIESR Head)

EXTREME CIRCUMSTANCES

The BOE currently pays interest on all reserves at Bank Rate. Should this be reduced or eliminated, banks will lose income they expected to receive upon selling bonds during the period of quantitative easing.

The Treasury can direct the Bank on monetary policy in “extreme economic circumstances,” under section 19 of the Bank of England Act, while the Sterling Monetary Framework protects the Bank from “liability if ordered by the Treasury,” according to Bateman. “Holders of BOE reserves could potentially” challenge an exercise of section 19 in the High Court, but would be unlikely to succeed as their right to receive interest was always contingent on the Bank’s legal powers over monetary policy.

“There is no current authoritative legal position regarding the meaning of ‘extreme economic circumstances’ because a justiciable dispute regarding section 19 has not been submitted to the judiciary for consideration,” added Bateman, who provided expert evidence to the House of Lords Inquiry into Quantitative Easing which reported in 2021.

INDEPENDENCE FEARS

Any change to the Bank of England Act that gave the government more power over monetary policy “would not be a revolution in terms of the Bank’s internal structure and presence in markets – despite what pundits may say,” he said.

The Bank could potentially sue to preserve its operational independence over monetary policy but would probably lose, said Bateman, 

Although it is “common to say that an unwinding of central bank independence triggers capital flight as investors dump assets ahead of inflation,” Bateman pointed out that these fears are based on research in the 1990s, and noted that there was no capital flight in response to the move by the U.S. Congress to compelled the Fed to make a USD19 billion one-off payment to the Treasury in 2015.

The decades since the 1990s have seen changes in “the absolute and relative size of the UK’s debt load, the wide-spread electoral discontent about the state of Britain’s public services and public investment (both since COVID-19) and the break-down of the liberalised world economy under the Trump presidency,” Bateman said.

Greater coordination between the Bank and HMT “could be viewed positively by investors as making the Bank more fit-for-purpose,” he said.