Second we can lend liquid assets – including cash – against assets that are, or have become illiquid. That is what we did with the Special Liquidity Scheme and more recently the Funding for Lending Scheme. In 2009 the Bank launched two schemes making outright purchases of assets other than gilts.10 We started to buy sterling commercial paper (up to 3 months maturity) and investment grade corporate bonds. At that time, in the worst conditions of the recession, the markets for these financial instruments had not been functioning normally. An increased demand for liquidity and heightened concerns about counterparty risk, caused many markets to dry up and asset prices to fall. By intervening as “Market Maker of Last Resort” the Bank was able, over about a 12–18 month period, to support the markets for both commercial paper and corporate bonds and drive prices back to more appropriate levels. The commercial paper scheme came to a natural end as prices rose and our holdings – which peaked at about £ in 2009 – matured. The corporate bond scheme is still in operation. Each week we offer to buy from a list of bonds, or sell from our stock. After reaching a peak in 2010 of some £ in holdings, the revitalized market has steadily bought the bonds back from us so that our stock is now only around £ Curiously, we still get people advocating the purchase of corporate bonds in large scale as well as gilts.
The recovery in financial markets that we have seen in the past 6 months or so, is in part driven by the statement that the ECB will do “whatever it takes” to keep the euro area together and the perceived commitment that the Fed will do whatever it takes to restore growth in the US. The belief in these policy approaches has been immensely powerful. But it must be backed not only by perceived intent but also by capability and delivery if needed – and economies always generate some surprises. If the actions don’t follow the words when necessary, then similar policy statements in future will be less effective. In the UK, market expectations are already consistent with monetary policy remaining very supportive for some time to come, indicating no change in Bank Rate until well into 2015. Yet there is still a debate about whether the MPC should give more “forward guidance”. In practice we have being doing this through the Inflation Report. The most recent edition makes it clear that we do not see much pressure arising from domestically generated inflation. Rather, we continue to see inflation being driven by factors such as tax changes, higher commodity and energy prices, and other external influences. These and similar adverse relative price changes have made us all financially worse off and contributed to keeping inflation higher than target over the past few years. In response, the Bank could have chosen to tighten monetary policy to keep measured inflation rates down.