Putting Out the NBFIRE: Lessons from the UK's Liability-Driven Investment (LDI) Crisis

Ruo Chen and Esti Kemp

No 2023/210, IMF Working Papers from International Monetary Fund

Abstract: Liability Driven Investment (LDI) funds were at the center of the severe stress that emerged in the UK gilt market in the aftermath of the September 2022 UK "mini-budget". The episode, which came on the heels of the “Dash for Cash” and “Archegos” stress episodes in the previous two years, highlights underlying vulnerabilities in the large and diverse non-bank financial institution (NBFI) sector. This paper seeks a deeper understanding of the factors that amplified the gilt market turmoil which ultimately led the Bank of England (BoE) to undertake temporary gilt purchases on financial stability grounds in late September/early October 2022 to restore orderly market conditions and enable LDI funds to build their capital positions. With the gilt market stress and the BoE’s purchases now fully unwound, this paper identifies the key reasons for the success of the BoE’s intervention. Then, drawing also on findings of the 2022 UK Financial Sector Assessment Program (FSAP), the paper discusses key gaps and policy issues related to the monitoring of financial stability risks in the broader NBFI sector for both individual jurisdictions and international standard-setting bodies.

Keywords: Defined benefit pension funds; liability driven investment; NBFIs; Bank of England financial stability intervention; liquidity management; central bank liquidity backstops; NBFI surveillance; financial stability; gilt market turmoil; LDI crisis; central bank liquidity; BoE's purchase; NBFI sector; Pension spending; Nonbank financial institutions; Financial sector stability; Liquidity; Financial sector risk; Global; Europe (search for similar items in EconPapers)
Pages: 25
Date: 2023-09-29
New Economics Papers: this item is included in nep-ban
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