BofE confirms plans for steady-state response following gilt market volatility

The Bank of England (BofE) has confirmed that it is midway through work to decide on the appropriate steady-state response to the gilt market volatility seen in autumn 2022, and is aiming to publish the framework in the second half of March.

Speaking at a Work and Pensions Committee (WPC) hearing, BofE executive director, financial stability strategy and risk, Sarah Breeden, suggested that while the guidance from The Pensions Regulator (TPR) and European regulators had been a "great interim step", it was a "holding measure".

In light of this, she argued that "what we need to do now is put all of that on a steady-state basis", confirming that the BofE is currently working TPR and the fund regulators on this.

"The Financial Policy Committee (FPC) is in the middle of discussing and deliberating on what the appropriate steady-state response is", she stated, confirming that BofE is aiming to include this in its "first quarter round", which is currently expected "sometime around the second-half of March".

"Ensuring that the responsibilities of trustees are clear is an important part of that," she added, clarifying though this is mainly a focus for TPR, while BofE is focused on the system risk consequences and financial stability.

"So what we will be doing is describing the outcomes that we think are needed in terms of financial, operational resilience and understanding, in order to reduce risk to financial stability." she explained. "TPR and the fund regulators may have additional requirements reflecting their views on the issue as well, our focus is on avoiding the systemic risk."

Breeden explained that the Bank's first focus is going to be dealing with the regime as it is, rather than looking at how the regime might be in light of TPR's recent guidance, and the recent increase in collateral buffers.

"It would then be for the regular to say whether or not they'd be able to implement that or not," she added, suggesting that if they cannot, potential regulatory changes could be the "natural next stage".

Breeden also repeated the focus on outcomes when asked whether liability-drive investment (LDI) should be banned altogether for some schemes, arguing that LDI "can have a purpose, but it does need to be well managed".

"We will set out the resilience outcomes that we want to see and if there are some schemes, perhaps because they are so small, that are unable to meet those standards, then it's a reasonable question to ask whether an LDI strategy is appropriate for them," she stated.

"But I don't think that it needs to be banned outright. We set out the outcomes of what well managed leverage in an LDI strategy requires, and then it's for individual schemes and TPR working with them to understand whether they can meet those requirements."

Looking ahead however, Breeden confirmed that pooled funds will "absolutely" be "very much" part of BofE's exercise following the experience in September, with concerns having previously been raised that the focus on segregated LDI funds may have left pooled fund risks "relatively obscure".

She stated: "I think it's really important that we are able to manage the systemic risks that come with LDI investment strategies, and what we saw in this period in September was that at the pooled funds were an important part of that stress, and therefore it will be important for us to have data on those if we are to be confident that financial stability risks are managed."

When asked about plans for TPR to require schemes to notify them if collateral buffers fell below a certain threshold, Breeden argued that the key requirement will be that the notification is "sufficiently early so that action can happen as a result of it, and not when it is too late".

Breeden also faced queries as to whether broader regulatory changes are needed, although she argued that this should be seen as an option "only when you can't achieve it through other means", confirming that BofE is currently working with regulators on financial stability risks.

She stated: "It may be that we find we're unsuccessful in achieving it, in which case there may be a case for thinking about how the regulatory perimeter might be adjusted. But first and foremost, we're having a go at making the existing one work."

The committee also asked Breeden about which organisation has responsibility for ensuring that pension scheme investments support the wider economy, although she reiterated in her response that FPC's "first and foremost" objective is financial stability.

"We have a secondary objective to support the government's policy on economic growth,” she acknowledged, stating that while the BofE has worked with government to identify ways that defined contribution pension funds can invest in long term infrastructure assets as part of this secondary objective, its focus is on financial stability.

Earlier witnesses to the committee were also asked about this issue in a session directly prior to Breeden's, with a particular focus on concerns around the potential for underinvestment in the economy due to regulatory constraints, with independent economic and financial markets commentator, Toby Nangle, telling the committee "it's no ones job right now".

"You could say it's the Treasury's job, but the Treasury doesn’t have a regulatory role in this," he added.

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