The resulting liability was mentioned in a little-noticed exchange of letters between Sunak and Andrew Bailey, Governor of the Bank of England, published alongside the latest report from the Bank’s Monetary Policy Committee some time ago. more than a week.

In the exchange, Bailey pointedly reminded the Chancellor that “reverse government payments would probably be required in the future” on the Bank’s holding of government securities, and that these should “be supported by the government in a timely manner”.

Sunak had no choice but to promise that “any potential future cash shortfalls will be fully met.” The problem arose because in attempting to stimulate the economy by lowering interest rates, the Bank paid more for much of its gilt holdings than it is now worth. With “quantitative tightening”, big losses become inevitable.

A quick calculation of the envelope return reveals that if all of the Bank of England’s Asset Purchase Facility (APF) gilts were sold back into the market, this would, at current prices, result in a loss of more than of £100 billion, which would then have to be reimbursed by the government.

As it stands, the Bank of England has warned the Treasury that it intends to start unwinding QE via a natural trickle-down process, or simply not reinvest the proceeds as gilts expire.

The first such reduction in the stock will therefore take place in March 2022, when £27.9 billion of APF-owned gilts will mature.

The likely loss will be in the region of £3billion, which the Treasury is obligated to repay under compensation agreed by then-Chancellor George Osborne when the pokery QE jiggery began soon after the financial crisis.

The Bank has also signaled its intention to start selling gilts outright once the discount rate hits 1%, which will be sooner rather than later given the inflation picture.

It’s complicated, so first a little background.

Frequently described as money printing – which I think is a pretty reasonable shorthand – QE is more accurately defined as a form of interest rate swap.

By buying government gilts, the Bank of England replaces long-term debt, which would typically command a coupon of around 3%, with a short-term asset that pays the bank rate, which since the financial crisis is close to zero.

Thus, in the monetary carousel that has been devised, the Treasury pays the promised coupon on the Bank’s APF debt, but the Bank only pays the discount rate on the reserves held by the commercial banks – in effect of cash – instead of the gilts they once owned but have now sold.

Any resulting surplus in the APF is then returned to the government. Since this fun monetary scheme was first concocted, transfers have been hugely helpful for public finances, contributing almost £120billion in total to the public purse at the end of last year, according to the ‘Office for National Statistics. This is worth around 2 euro cents excluding income tax in terms of money collected over the same period.

But all good wheezing eventually gets uncovered and comes to an end, and that’s precisely what threatens to happen as interest rates rise. The first blow comes from a rising discount rate, which means that the advantage the government derives from paying almost nothing on its debt rather than the initial coupon, is eroding.