The UK has sold negative yield bonds for the first time, as falling inflation has put additional pressure on policy makers to take further action to support the economy.
The sale effectively means that investors are paying the privilege of lending to the UK government, reflecting growing investor expectations that the Bank of England may need to take further steps to bring inflation back to its 2% target.
The BoE has so far resisted lowering its main interest rate below zero, but other central banks, such as the European Central Bank and the Bank of Japan, had already pushed their rates into negative territory even before the Covid-19 crisis.
The UK has sold £ 3.8 billion over three years at a return of less than 0.003%, according to the Debt Management Office. The slightly negative return suggests that investors who hold debt to maturity will recover less than they paid when they take into account regular interest payments and return of capital.
The UK sold a month bill at a negative yield in 2016, but this is the first time it has sold a longer-term conventional bond at a below zero yield.
Data released on Wednesday showed that annual consumer price inflation in the UK had almost halved to 0.8% last month – the lowest level in nearly four years. Much of the decline is due to a drop in oil prices, but some economists have warned that the demand shock caused by the closings could lead to a broader disinflationary trend.
Adrian Paul, economist at Goldman Sachs, said he expected the BoE to increase its bond buying program by £ 100 billion next month “in the context of an extended period of inflation below target ”.
“With inflation now more than a percentage point above target, the Governor of the Bank of England will do so. . . I need to write a letter to the chancellor explaining why inflation is so far below target and what he intends to do about it, “said Melanie Baker, senior economist at Royal London Asset Management. “The next step we expect to see is the increase in asset purchases.”
The UK pulled orders for £ 8.1 billion in Wednesday’s auction, 2.15 times the amount DMO was looking to sell. The high demand underscores the attractiveness of gilts, long regarded as a paradise due to the high solvency of the United Kingdom. He also suggests that fears about the sharp increase in UK borrowing as a result of the Covid-19 pandemic have not yet weighed on investors’ appetite for debt.
The auction comes during the growing debate over whether the BoE should cut its main interest rate from its already historic low in negative territory, as policymakers try to bring inflation back to the 2% target and to protect the economy from the reductions induced by coronaviruses.
Barclays rate strategist Moyeen Islam said the auction was a “symbolic hurdle.”
“In light of recent comments from members of the monetary policy committee, the issue of negative policy rates is far from resolved,” he said.
Other central banks that have already used negative rates have come under criticism, especially from banks, as this weighs heavily on the profitability of their traditional lending operations.
“I can’t think of an economy where negative rates are a worse idea than the UK,” said Kit Juckes, strategist at Société Générale.
“The economic benefits are questionable but the power of a cocktail of negative rates and massive quantitative easing to weaken the currency seems clear and if the pound falls enough it will make QE more difficult,” he said. .
Additional reporting by Katie Martin in London