UK reserves interest abolition unlikely without rate cut
Simon Ward
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Economists expect no change in Bank rate or QE tomorrow but rumours abound of a change in arrangements for paying interest on cash reserves held at the Bank of England. Banks currently receive Bank rate on all reserves; critics claim this encourages hoarding of cash.
As explained in a prior post, a blanket abolition of interest on reserves would push overnight rates well below Bank rate. One of the objectives of the Bank of England's money market operating procedures is to keep the two in line. Suspending this objective would undermine the anchor role of Bank rate in current monetary arrangements.
Since interest abolition and a consequent fall in overnight rates would be an effective easing of monetary policy, the decision would need to be taken by the full MPC rather than Bank staffers. If the MPC judges such an easing to be necessary, it is difficult to understand why it would not simply cut Bank rate itself, or indeed why it did not do so last month.
While interest abolition seems unlikely, at least without an accompanying cut in Bank rate, the Bank could conceivably introduce measures to penalise individual banks holding larger-than-average reserves balances, e.g. balances above a certain percentage of sterling assets could receive no interest or attract a charge. The macroeconomic implications of such a change, however, would be negligible.
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