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The Bank of England and the Government Debt: Operations in the Gilt-Edged Market, 1928-1972

Author(s):Allen, William A.
Reviewer(s):Wood, John H.

Published by EH.Net (June 2019)

William A. Allen, The Bank of England and the Government Debt: Operations in the Gilt-Edged Market, 1928-1972. Cambridge: Cambridge University Press, 2019. xiv + 260 pp. $120 (hardcover), ISBN: 978-1-108-49983-5.

Reviewed for EH.Net by John H. Wood, Department of Economics, Wake Forest University.

 
Central banks do more than conduct monetary policies aimed at price level and employment objectives. They also — and this was the Bank of England’s (the Bank’s) original and primary task for most of its history — raise money (issue/sell securities) for governments, and in the course of debt management support orderly and otherwise attractive markets for those securities, including gilt-edged bonds in the UK, or gilts, so called because their paper certificates had gilded edges. The purpose of this book “is to describe the [Bank’s] operations in the gilt-edged market” from 1928 to 1972, “and to suggest possible reasons why they were at times conducted in a way which most economists found quaint and incomprehensible” (p. xiii). The author worked for the Bank from 1972 to 2004 on monetary policy formulation and financial market operations, and his book endeavors with a good deal of success to connect these activities.

The market for gilts has largely been conducted by the brokers and jobbers (dealers/market-makers) of the London Stock Exchange since the eighteenth century. (UK bonds are also known as Treasury stock, and historically were among the main securities traded on the Stock Exchange.) Not being an Exchange member, the Bank dealt through a broker, the Government Broker, the senior partner of Mullens and Co. A primary goal, and the one emphasized in this book, was “to maintain the liquidity of the gilt market,” and in this connection act as market-maker of last resort. This role of central banks “has been discussed extensively in the context of the crisis of 2008-09,” but the present study shows that the Bank had long acted in this manner, and even, at times, as market-maker of first resort (pp. 2-3). “The term ‘market liquidity’ refers to the ease with which large amounts of an asset can be bought or sold; ease embraces both the amount of time it takes to complete the transaction, and how close the transaction price is to the price ruling in the market just before the transaction was undertaken” (p. 6).

The Bank’s financial activities depended on the monetary policies chosen by the government. In particular, its interventions were dictated by the government’s frequent preferences for interest rates that differed from market equilibria. The Bank acted pretty much as a price taker during the 1930s, when yields rose with recovery from the Great Depression, but was a substantial buyer during World War II as it supported interest-rate ceilings on government debt. From after the war to near the end of our period, the Bank (along with other central banks) was torn between the often contradictory goals of a fixed exchange rate and full employment, forcing devaluations of the pound from $4.20 to $2.80 during Labour’s “cheap money” policy in 1949 and to $2.40 in 1967, which was a delayed reaction to the Tories’ growth policies of the late 1950s and early 1960s. Among the unfortunate side effects of the misalignment of policies were foreign exchange controls and the suppression of private demands (including investment) by means of controls on consumer credit and bank lending.

The Bank of England and the Government Debt describes the Bank’s debt management during several episodes, including the period of ultra-cheap money and the exhaustion of market liquidity beginning in 1945, with “the government’s ultimately unsuccessful attempt to get long gilt yields down to 2.5%” (p. 64), “after the general election of 1951, [when] the new Conservative government tightened monetary policy [raised Bank Rate from 2% to 2.5%, and then to 4% in 1952] for the first time since 1931” (p. 77), and the Bank’s support of gilt prices during Prime Minister Harold Macmillan’s pursuit of economic growth after 1957 (with fixed exchange rates bolstered by exchange controls).

These changes, particularly in the latter case, were “notable for misunderstandings between the Bank and the Treasury about what operations had been undertaken and what objectives had been agreed between them, and, within the Treasury in 1963, between an expansion-minded Chancellor (Reginald Maudling) [with an election due the next year] and his more cautious officials. The programme did not survive the change of government in October 1964. It had the incidental [I would say necessary] effect of further increasing the scale of the Bank of England’s activity as the market-maker in gilts” (p. 123).

Governor Cameron Cobbold told the Radcliffe Committee in 1957 that a general objective of the Bank was “to maintain an orderly market in gilts, but it is no part of … policy to resist a definite trend of markets in one direction or the other” (p. 80). However, the author comments regarding 1961 that it “was a bit rich for the Bank to say that prices would ‘continue to depend upon general market conditions’ after doing its utmost to prevent prices from depending on general market conditions” (p. 122).

Chapter 13 (“The Bank’s Contribution to Market Liquidity”) begins: “In a hypothetically perfectly liquid bond market, the government could sell any amount of debt that it wanted to, at any time, at a price very close to the previously ruling price” (p. 172). But this is not what the book is about, which is principally the insurmountable problems of debt management when the government seeks prices different from those “depending on general market conditions.” This kind of central bank induced disequilibrium in the capital markets as a source of price changes has been a major study of economists, including Thornton, Ricardo, Wicksell, Hawtrey, and Sargent and Wallace. (Or perhaps the author referred to the postwar “Keynesian” economists who believed that interest rates could and should be fixed at low levels while inflation was held in check by direct controls.) It would be instructive to read this market-oriented book alongside a macro-study of the determination of UK interest rates.

 
John H. Wood is Reynolds Professor of Economics at Wake Forest University and author of A History of Central Banking in Great Britain and the United States (Cambridge University Press, 2005) and Central Banking in a Democracy (Routledge 2015). A current research project connects the economics and politics of William McChesney Martin, Jr. at the Fed and as president of the New York Stock Exchange in an analysis of “who governs,” legislatures, bureaucracies, or markets?

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Subject(s):Financial Markets, Financial Institutions, and Monetary History
Geographic Area(s):Europe
Time Period(s):20th Century: WWII and post-WWII