United Kingdom’s Debt Management Office, which is the department that is involved in the sale of bonds, to raise finance for the government to increase public spending, issued a press release on 23rd April 2020, to announce a revision for the financing remit between the months of May to July 2020. The Debt Management Office announced that in alignment with Her Majesty’s Treasury Department’s announcement of new financing to be raised, it would be raising £180 billion, exclusively by issuing conventional and index-linked gilts. This has come after previously raising £45 billion in the month of April, making a total of £225 billion in four-month.
These are signs of intense pressure for the government, as the last, it had to raise so much for public spending to support the economy was just after 2008 Financial and Mortgage Crisis, when they sold bonds worth £227.6 billion in the year 2009-10. This show how the government is falling short on providing the kind and quantity of support it deems to be necessary for supporting the entire country.
The DMO’s press release also clearly mentioned that this financing option is being exercised to complete the requirement of all the quantitative easing and business support as well as job support measures that have been announced during the month of March, and most of which have gone live as well. This amount also reflects the impact on the remittance of the year 2020-21 from the publication of the government’s net cash requirement in the year 2019-2020. The shortfall of the remittance that happened during the previous year will be refinanced during the current year. The Debt Management Office, however, did not indicate as to what are the government’s plans on the total amount of gilts that will be issued for the year, but the press release stated that the DMO would notify as soon as it is confirmed by Her Majesty’s Treasury department.
What are Gilts, and how are they used?
Gilts are government’s bonds or securities in the United Kingdom as well as some of the other Commonwealth countries. They operate like US Treasury Bonds. Generally, Gilt is used to describe a piece of security that has extremely low-risk and has a low chance of default, making it a very safe investment, because it is mostly issued by governments and it is believed that government would not default on their payments. In terms of government securities, there are majorly two types of gilts – Conventional and Index Linked. While Conventional Gilts are considered to be vanilla bonds with a fixed coupon rates within fixed period of time intervals, Index-Linked Gilts are more dynamic in nature and the coupon rates on these securities are linked to the overall inflation levels or the Retail Price Index levels, the statistics of which are issued by the Office of National Statistics (ONS).
Since Gilt is considered to be a low-risk instrument, even the privately issued bonds, that are extremely secure in nature, and are at the highest level of the investment grade rating are also sometimes known as Gilt-Edged Bonds. It is important to note that if an investor is looking to invest in Gilt Edged Bonds, they should consistently and carefully study the Debt Ratings issued to these entities by some of the top rating agencies in the world and look at the rationale they are giving for those ratings.
Why are these bonds being issued?
After announcing a large number of schemes to support the British Economy during this period of crisis, Rishi Sunak, the Chancellor of the Exchequer discovered a new problem that he was not aware of earlier, as he was appointed just a few days prior to the Budget at the end of February. This problem was the cash flow problem, as has been pointed by different experts. After the announcement of these schemes, the chancellor realised that the government’s requirement of cash for the purpose of public spending was much higher than what was available and hence more cash would be needed to be raised to support some of the schemes that they had announced including the likes of Covid Business Interruption Loan Scheme, the Covid Corporate Financing Facility as well as the Coronavirus Job Retention Scheme. They also realised that the tax revenues that had been collected from the previous year had all dried up due to the government’s investment in infrastructure as well as rail projects previously, to build a dependency on the country itself, so that Brexit could be done smoothly and lesser and lesser external help would be required after exiting the European Union. That move backfired as in the current situation of emergency; there was a shortage of cash. To solve this problem, the government announced the issuance of gilts, which brought certain other problems with itself as well. It has been reported that issuing bonds takes time and that remittance to reach the government takes even more time. And hence, to solve this liquidity crunch and to support the government, the Bank of England decided to print more money as an overdraft facility for the government, on a condition that the treasury would pay off this excess overdraft, by the end of the year.
Now, this is extremely interesting to note that the issue with printing more money is that there is a possibility of deterioration in the value of the British Pound, which may have an impact on the economy as a whole, as it would allow other countries to buy British goods for cheaper, leading to lesser revenue for the government itself, and once the cycle keeps repeating, the inflation keeps on rising while the currency keeps on depreciating. Hence, printing too much money is not a great option, which is why it would be extremely crucial on the government’s part to return this money to the bank of England as soon as possible, once this phase of public spending ends.
Experts believe that now that these Gilts are being issued and the money is borrowed from the public itself, the chancellor’s focus should be on providing growth as soon as the country is out of this Coronavirus Lockdown phase. The reason behind this is, as has historically been seen, growth is the only catalyst that can take a country out of a phase of recession, which, if any are to be believed, has already flung in the UK economy. So, if the chancellor can tweak his policies in the coming months, to look for growth, rather than policies that are popular in nature, it would be easy for the British Economy to be back on track. What will happen, though remains to be seen.