[DEBATE] : Bank of England stripped of independence, ordered to gush cash

[Riaz K. Tayob]

Bank of England stripped of independence, ordered to gush cash
	
Submitted by cpowell on 09:00PM ET Wednesday, September 19, 2007. 
Section: Daily Dispatches

By Ambrose Evans-Pritchard and Philip Aldrick
The Telegraph, London
Thursday, September 20, 2007

http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/09/20/cnutur...

The government has forced the Bank of England to relax lending standards 
in a dramatic U-turn, effectively stripping the institution of its 
independence for the first time since the new monetary regime was 
created in 1997.

In a bizarre move, the bank shifted tack abruptly yesterday by agreeing 
to flood the capital markets with L10 billion of three-month money and 
widen the asset classes it will accept as collateral against the loans.

The change in policy came despite vehement objections from top bank 
staff, including Governor Mervyn King, who said a week ago that lack of 
liquidity was not the root of the problem and that opening the 
short-term credit spigot "encourages excessive risk-taking and sows the 
seeds of a future financial crisis."

In a humiliating climbdown, the bank said it is now acting "to alleviate 
the strains in the longer-maturity money markets." Eligible collateral 
will now include mortgage debt.

The new measures had little impact on the British markets yesterday 
since optimism was returning worldwide as a result of the Federal 
Reserve's half-point rate cut on Tuesday. The FTSE 100 was up 176.7 
points to 6460, moving in lockstep with Japan's Nikkei and European bourses.

Political sources told The Daily Telegraph that the pressure came 
directly from Chancellor Alistair Darling. Labour is furious that the 
crisis at Northern Rock was ever allowed to reach the point of mass 
panic by depositors, with contagion effects spreading on Monday to 
Alliance & Leicester and other lenders.

The decision to intervene in credit management has left the governor in 
an untenable position. It risks destroying, overnight, a decade-long 
experiment in monetary discipline that has won praise across the world.

"This is a 180-degree turn," said Danny Gabay, an ex-official at the 
bank and now with Fathom Financial Consulting. "I don't think this 
U-turn was of the bank's own volition. My feeling is this has the dead 
hand of the Treasury all over it."

Tory MP Peter Viggers, a member of the Treasury Committee, said Mr King 
had been right to resist calls for extra liquidity. "This places the 
bank in a most difficult position. Was the bank put under pressure and 
if so by whom?" he said. Mr Viggers and fellow Tories intend to probe 
the affair aggressively at a grilling of Mr King before the committee today.

Mr Darling believes the Northern Rock debacle could have been avoided if 
the bank had agreed to accept mortgage collateral at its lending window 
earlier, copying the Federal Reserve and European Central Bank. Bank 
officials insist that this would have made no difference to Northern 
Rock, which got into trouble through over-reliance on short-term funding 
from the capital markets.

Relaxing collateral rules merely loosens standards for the entire 
system, encouraging moral hazard. It is hard to see how it can be 
justified at this late stage, as the crisis abates.

The Financial Services Authority was more open to the idea of relaxing 
rules, though informed sources deny reports the FSA took a strong stand. 
Relations between the FSA and the Bank have now become poisonous.

Bernard Connolly, global strategist for Banque AIG, said the bank may 
have been slow in seeing the gravity of the crisis, and insisted that 
Labour is using the issue as a pretext to force a loosening in monetary 
policy: "The governor is being burned at the stake by the government. 
This dispute has macro-economic implications."