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The Bank of England signalled on Wednesday that it was close to releasing a wave of new money into the shrinking British economy because of the worsening euro zone crisis.
Such a move would effectively involve printing money to buy government bonds, which in term would lower British borrowing costs.
Coming on the back of last week's announcement of new BoE and government measures to spur lending to businesses, it underlines the depth of concern that exists about the state of Britain's economy as its main trading partners struggle.
The first of last week's new lending measures took effect on Wednesday, when the BoE gave banks 5 billion pounds of low-interest six-month loans. The banks were urged by the BoE to take the money, sources told Reuters.
Minutes of the BoE's last policy meeting, released on Wednesday, showed bank officials split just 5-4 against launching a new round of monetary stimulus by buying government bonds, significantly with Governor Mervyn King in favour.
The minutes show far stronger support for more stimulus than many economists had expected, and follow the announcement last week of new BoE and government and help Britain's economy, which returned to recession late last year.
They also gel with the mood of other authorities around the world in the face of weakening global growth and massive uncertainty about the euro zone, which combines to rival the United States as the largest economy in the world.
The US Federal Reserve is under pressure to authorises more stimulus later on Wednesday at the end of a two-day policy meeting, while the People's Bank of China cut interest rates two weeks ago in a surprise move.
The BoE's Monetary Policy Committee said the global economy was slowing and that risks to Britain and the rest of the world from financial distress and political tension in the euro zone had intensified.
“”Most members judged that some further economic stimulus was either warranted immediately or would probably become warranted in order to meet the inflation target,” minutes of the June 6-7 meeting said.
British bond, known as gilts, outperformed German government debt after the news, as markets bet the bank would soon restart its programme of quantitative easing asset purchases funded by what is effectively newly printed money.
QE, as it is known, is designed to help the economy by making borrowing cheaper and has already led to 325 billion pounds of British government bond purchases.
“The vote in June was much closer than many had been expecting,” said Citi economist Michael Saunders. “It's clear the MPC are heading for further QE soon in large scale and I think it's highly important that the governor has switched his vote on that.”
The BoE called a halt to new gilt purchases in May, largely because inflation was proving slower than forecast in falling back to its 2 percent target.
But this month the BoE said inflation was now likely to be lower than forecast, in part because of falls in oil prices and less generous wage deals as well as risks from the euro zone. Since the MPC meeting, inflation dropped unexpectedly to 2.8 percent from 3 percent.
Separate data released on Wednesday showed an unexpected rise in the number of Britons claiming jobless benefits.
QE NOT CERTAIN NEXT MONTH
Last month external BoE member David Miles was the only official to call for an expansion of QE, but this month he was joined by King and external member Adam Posen in urging an extra 50 billion pounds of purchases.
Paul Fisher, the BoE's executive director for markets, supported a 25 billion pound increase.
Despite the closeness of the vote, some economists said it would be wrong to see more QE next month as a done deal.
“The immediate reaction on the minutes when you see a 5-4 is QE is imminent, and they are flagging it coming. But I don't think it is entirely as black and white as that,” said Scotiabank economist Alan Clarke.
Some MPC members had said they wanted to see the outcomes of Greek and French elections before deciding on more QE. Both took place last weekend, and Greece appears to have formed a government that broadly supports the country's existing bailout.
The government's options to stimulate the economy are limited due to its commitment to eliminate most of Britain's big budget deficit over the next five years - putting much of the onus on the BoE..
Demand for the 5 billion pounds lent on Wednesday appeared muted as the BoE had to lend some of the funds at the minimum 25 basis point premium over its 0.5 percent Bank Rate that it was willing to accept.
Anthony O'Brien, strategist at Morgan Stanley, said the result suggested that “the need for liquidity is not as bad as possibly people thought it might be”, and that the terms on which the BoE accepted lower-grade collateral were relatively unattractive.
The BoE asked big banks to participate in the operation, in order to remove any stigma attached to taking what could be seen as emergency cash, several people familiar with the matter said. - Reuters