New Bank of England liquidity backstop to first focus on gilts, insurers

New Bank of England liquidity backstop to first focus on gilts, insurers

By Huw Jones

LONDON (Reuters) -The Bank of England said on Tuesday that its planned liquidity backstop for non-banks during market stress will initially target the UK gilt market, insurers and pension funds, reflecting the recent crises in markets.

A “dash for cash” when economies went into lockdown in March 2020 to tackle the COVID-19 pandemic forced central banks to inject liquidity into markets to stop some funds from freezing.

It prompted regulators to take a closer look at how non-banks such as funds, insurers and others, which account for half of UK financial assets and half of the stock of corporate lending, cope with market stresses.

The BoE had to intervene in September 2022 to buy gilts, after their yields rocketed following then Prime Minister Liz Truss’ plans for unfunded tax cuts, creating problems for liability-driven investment (LDI) funds used by pension funds.

The BoE said in September last year that it had begun work on its first facility to lend to non-banks to help avoid a repeat of the bond market turmoil, and on Tuesday it set out details on how it could work in practice.

“We initially plan to focus the tool on the gilt market, and insurance companies, pension funds and liability-driven investment funds (collectively ICPFs) as counterparties,” said Nick Butt, head of the BoE’s Future Balance Sheet unit.

ICPFs would interact directly with the BoE, if they meet eligibility criteria that will be published.

“The Bank is carefully considering whether to apply a minimum standard of credit risk for firms to access the tool,” Butt told an ISDA derivatives event.

The new tool, whose overall aim is to keep the gilt market stable, would only be activated during times of stress and not be available in “normal times”, and would provide cash against gilts, Butt said.

“To be effective as a backstop the pricing would therefore be set at a level that may not be attractive in normal conditions but would encourage wide usage in times of stress, helping increase impact and minimise stigma,” he added.

(Reporting by Huw Jones; Editing by Alexandra Hudson and Alexander Smith)