Bank of England – What £100bn in extra QE means for investors

The Bank of England has increased its quantitative easing (QE) program by an additional £100bn, taking the recent round of QE to £300bn and the total stock of asset purchases to £745bn. The Bank also decided to keep the base interest rate at 0.1%.

Quantitative easing is where the Bank creates new money to buy government and corporate bonds in the open market. The idea  is to support the price of bonds and thereby reduce interest rates, because yields fall as prices rise. Lower interest rates are intended to stimulate spending and investment as saving becomes relatively less attractive. Additionally, QE adds more cash to the system, potentially giving banks greater liquidity.

What is the Bank trying to achieve?

The Bank’s target is price stability, defined as 2% inflation each year as measured by the Consumer Prices Index (CPI). Subject to meeting this target, the Bank is charged with supporting the government’s goals for unemployment and economic growth.  

On 17 June the Office for National Statistics said CPI inflation was just 0.5%, following a reading of 0.8% in April and 1.5% in March. This is a low enough reading that the Governor of the Bank, Andrew Bailey, has had to write to the Chancellor of the Exchequer, Rishi Sunak, explaining why.

Why is inflation so low?

The Bank largely attributes low inflation to the pandemic, noting that low oil prices have reduced costs throughout the economy, not just at the pumps. Additionally, we’ve been spending less during the lockdown – in part because we’ve been stuck indoors but also because some people may be tightening their belts if they’re worried about their financial future. Because of these two factors, the Bank expects inflation to fall further this year before it recovers.

While output has fallen dramatically during the last few months, including a 20% drop in April, some of the latest news , such as consumer spending data and housebuilding, is more positive than expected. The Bank now thinks the economic damage may not be as bad as they’d feared when their Monetary Policy Committee last met in May. But the outlook is still uncertain, and the labour market is still weak. It remains to be seen how many jobs will return when the government’s furlough scheme starts to wind down.

Are we worried about inflation?

Whenever central banks start printing money people start worrying about inflation. However, our view is that the short term risk is actually deflation (or falling prices) if economies fail to gather the momentum needed to recover from the lockdowns.

In the long run it’s possible central banks may print so much money in their attempts to get their economies going that inflation does take off. However, we don’t think we’re nearing that point yet.

What does this mean for investors?

Quantitative easing is intended, in part, to support asset prices. On the face of it this should be good news for stocks and bonds.

However, investors shouldn’t lose sight of why the Bank’s taken these steps. The outlook for the global economy is highly uncertain, and while central banks have a lot of firepower it may not be enough if conditions really sour.

At the moment stock markets seem optimistic and have risen sharply over the past few months following the dramatic falls in March. But that could change quickly if we get a second wave of infections or more discouraging economic news.

As always investors should make sure they are properly diversified between shares, bonds, property and cash. A balance always has to be struck between the risk of missing out on a strong rally in riskier assets like shares, and the risk of markets falling heavily if the global economy deteriorates.

If you’re unsure, please seek financial advice.

What does this mean for savers?

Unfortunately we currently think it means interest rates are likely to stay low, potentially for some time. The point of low interest rates and quantitative easing is to discourage saving in the hope that we’ll either start spending or investing.

However, it’s still worth keeping some money in cash for emergencies and known expenses in the short to medium term  because your money is not at risk from market volatility.  The returns on offer are low at the moment, but can still beat the very low rate of inflation. If your savings interest rate is lower than inflation it means the real value of your savings is being eroded over time, so it’s as important as ever that savers look for the best interest rates they can find for the level of access they need. 

Our Active Savings service may be of interest here. It allows savers to pick and mix different savings products from a range of banking partners all in one online account, making it easy to switch between different providers.  

Active Savings helps you make your own decisions and is not personal advice.

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