Daily Archives: January 16, 2013

The Bundesbank, Germany’s central bank, has decided to move part of its gold holdings from the Federal Reserve Bank in New York and other central banks such as the Banque de France to Frankfurt. This unusual and highly-visible decision is sure to trigger an explosion of media commentary relating both to motivation and implications – especially since Germany joins Iran, Libya and Venezuela in making such a move.

I suspect that Germany’s motivation is purely domestic: officials are responding to growing internal pressures ahead of elections later this year.

Since the start of the European debt crisis in 2009-10, citizens have gotten increasingly concerned about other countries’ ability to access their income. It is one thing for Germany to commit to a one-off loan to Greece. It is another for it to be part of recurrent bailouts, both direct and indirect, for a potentially expanding set of European countries.

Germans also realise that the more loans they make to struggling economies, the less likely they are to get fully repaid. Already, there is — understandable and realistic — talk that official creditors will have no choice but to forgive part of their financial claims on Greece.

It is not unusual for concerns about open-ended income transfers to evolve into broader worries about the integrity of the nation’s wealth and well-being. After all, German citizens are still paying a tax to cover the politically-driven decision just over 20 years ago to unify at parity the currencies of both East Germany and West Germany.

Over the last few months, there has been a debate in Germany about the safety of the country’s gold stock held in other countries – amplified by recognition that the historical case for holding the gold abroad is no longer as valid.

So, as I see it, domestic factors explain most of the motivation for Germany’s highly-visible and unusual decision. As much as conspiracy theorists may wish otherwise, this is not about the safety of the US Federal Reserve, nor is it about the state of German-US relations. And the backdrop of growing EU-UK tensions has nothing to do with all this either. After all, Germany is also repatriating gold from Paris.

Yet the systemic significance of Germany’s unusual announcement does not end here.

We are living in a world of growing multilateral economic tensions. As an illustration, witness the number of references in the media to “currency tensions” and “currency wars”. See also the extent to which many foreign governments have already expressed their displeasure about policy approaches adopted by the US Federal Reserve and Congressional dysfunction.

Given all this, Germany’s domestically-driven decision carries international risk.

In the first instance, it could translate into pressures on other countries to also repatriate part of their gold holdings. After all, if you can safely store your gold at home — a big if for some countries — no government would wish to be seen as one of the last to outsource all of this activity to foreign central banks.

If developments are limited to this problem, there would be no material impact on the functioning and wellbeing of the global economy. If, however, perceptions of growing mutual mistrusts translate into larger multilateral tensions, then the world would find itself facing even greater difficulties resolving payments imbalances and resisting beggar-thy-neighbor national policies.

The most likely outcome right now is for Germany’s decision to have minimum systemic impact. But should this be wrong and the decision fuel greater suspicion – a risk scenario rather than the baseline – the resulting hit to what remains in multilateral policy cooperation would be problematic for virtually everybody.

British savers and pensioners are among the biggest losers from the Bank of England’s long-running programme of quantitative easing. This is because the main way QE affects the economy is by holding long-term interest rates below market levels. Annuities are based on long-term rates and, for a 65-year-old man, the income from an average annuity fell by almost 12 per cent in 2012.

The Bank has claimed that such loss of retirement income is offset by the stimulus QE provides to the stock and bond markets in which pensions are invested. However, the extent of this offset is limited for funds that are in deficit and for many people with personal pensions and savings who have been advised to shift their resources out of volatile assets and into fixed-interest accounts. Retirees and others who are living off their savings will continue to suffer financial repression as long as interest rates are held down. They receive a double whammy if inflation remains high, pushing real interest rates further below zero.

Fortunately there is an easy and politically attractive way that the chancellor of the exchequer could counteract this negative byproduct of QE. In his next Budget he could instruct National Savings and Investments to issue an inflation-linked “pensioner bond” available for purchase only by individuals over 60 or for younger people within their pension wrapper to grow in value until they retired. Institutional pension providers would not be eligible as purchasers. The real interest rate could be fixed at 2.5 per cent, the current estimate of the economy’s potential growth rate, plus recorded inflation over the previous 12 months, as measured by the consumer price index.

With inflation today standing at 2.7 per cent, these pensioner bonds would have a highly attractive yield of 5.2 per cent compared to less than 1 per cent on most savings accounts. To avoid giving an extra advantage to those in high tax brackets, interest payments would be taxed as income when received and total purchases could be capped at, say, £100,000 a person. This would be high enough to meet the needs of most savers but not so high as to crowd out the bulk of other investments in the personal pension pots of wealthier people.

The advantages of such a proposal are that it is easily understood; it could be closely targeted as it is based on age and already defined pension wrappers; its impact on the public finances would be minimal because of its targeting and it would reinforce the incentive to save for retirement rather than relying on the state. The disadvantages are that it could divert savings from alternative investments – which the financial services industry would not like – and it would cost the Treasury more to fund a portion of its debt as market rates on inflation-linked government bonds have recently fallen below zero. This extra cost to the exchequer could be limited by capping the size of individual holdings of pensioner bonds.

There could also be an unexpected macroeconomic benefit. The over-60s account for a growing share of the total population and they are generally net spenders, not savers. They own more than a quarter of household wealth in the UK and naturally they are concerned about its erosion through inflation or market turbulence. Providing them with the security of a known, inflation-proof income could stimulate their spending on leisure services such as travel and entertainment. Among Japanese economists there has long been a renegade school of thought that low interest rates for long periods have depressed, rather than stimulated, consumption because of the high proportion of older households who base their spending on interest income. If this is even partially true, then augmenting today’s low interest rates for younger borrowers with high rates for older savers could provide a new “operation twist” to complement the monetary policy stimulus from QE.

The writer is chairman of Chatham House and a former member of the Monetary Policy Committee of the Bank of England

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