(Bloomberg) -- UK banks are borrowing the most since the pandemic from a key Bank of England facility as the central bank’s attempt to remove extra liquidity from the financial system prompts increased demand for cash.
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Total outstanding usage of the BOE’s Indexed Long-Term Repo facility, or repurchase agreements that provide banks cash in return for pledging collateral for six months, exceeded £10 billion ($12.7 billion) for the first time since 2020. The sum was reached after £1.33 billion of lending Tuesday — the most at a single operation since April five years ago.
The BOE’s aim is to wean markets off abundant liquidity fueled by years of gilt purchases, and instead provide cash via repo operations. That transition raises the risk of volatility, though, and officials are monitoring sterling money markets for signs of tension. A separate one-week repo facility hit a fresh record last week.
“Money market rates are clearly shifting to levels which suggest that a simple shift from a gilt-based to a repo-based portfolio may not be that easy to implement,” said Pooja Kumra, senior UK and European rates strategist at Toronto-Dominion Bank. The smoothness of the transition is “dependent on how easily the banks can adapt to the lack of the BOE’s footprint in the gilt market.”
The BOE is reversing years of bond purchases as well as winding down a program where it offered cheap loans to banks in order to boost the economy during the pandemic. While the BOE is not the only central bank reducing excess liquidity from its financial systems, its policy of actively selling gilts from its portfolio is more aggressive than most.
Asked for comment by Bloomberg News, a BOE spokesperson said on Tuesday: “We’re open for business and welcome continued use of the ILTR. We expect and encourage firms to use our facilities much more.”
Central bank officials have consulted market participants on how to improve the attractiveness of its repo operations. Both the International Capital Market Association and UK Finance, which represent banks that use the facility, are pushing for additional tenors as well as a move to a so-called triparty repo system. That’s where post-trade processing is outsourced to a third-party agent, reducing operational friction.