The Bank of England has agreed to extend its quantitative easing (QE) programme by £50bn to give a further boost to the UK economy but pension funds will suffer as a result.
This brings the total of the QE stimulus to £325bn since it started in 2009. QE is the purchasing of financial assets from banks and other private sector businesses with new electronically created money from the Bank of England i.e. it doesn't actually print the £ notes. It is part of the Bank's bid to stave off a double-dip recession.
With interest rates now so low the Bank of England can no longer hope to revive the ailing economy by cutting the price of money and making it cheaper for people to borrow - they have effectively run out of ammunition.
In theory the Bank of England's purchase of government-issued bonds [gilts] from banks frees up cash for lending. It is an unconventional monetary policy used by central banks to stimulate the national economy when conventional monetary policy has failed. This means that the bank of England currently owns a quarter of the national debt; an unprecedented situation.
But the tactic designed to get banks lending more hasn’t worked so far. Lowering long-run government interest rates doesn't necessarily feed through to substantially lower rates for people and businesses in the real economy. Conceivably it could feed through to lower bond market rates for large corporations but they can already borrow easily in the bond market. The major problem is the availability of credit to small companies which shows little sign of improving.
So while it may not stimulate lending to the people and organisations that need it the most, QE has a disastrous side-effect on the income derived from annuities purchased by pensioners to give them an income for life.
The annuity income tracks the interest rate the government pays on its debts. These interest rates are already low and QE pushes them even lower. Twenty years ago someone with a £100,000 pension pot could buy an annuity that would give £15,000 income for life. Today it buys less than £6,000.
Research from financial services company Hargreaves Lansdown found that even just four years ago a 65-year-old man with £100,000 could have bought a level income of £7,855 and these downward pressures will continue through 2012.
It seems a high price to pay for a tactic of such dubious worth.
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