Bank of England continues its mistakes. Quantitative Easing is not what we need.
by Dr. Ros Altmann
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7th May 2009
Have we lost all perspective of the value of money?
Bank of England is printing £125billion to buy gilts and bonds – but this is more than total money raised in National Insurance and Council Tax
Short-term policy experiment ignores longer term dangers – it is a giant gamble, before we have even given past measures time to work
The money will not reach smaller or medium size companies who still need it – it will leak abroad to help other countries
Bank will not be able to unwind the policy without damaging the gilt market
Inflation has been chosen as the way out of our debts – pensioners beware!
The Bank of England has just announced it will print yet more money to continue its experiment of ‘quantitative easing’. This is another grave policy error. The Government’s budget deficit means it needs to sell gilts, not buy them, and trying to massage the gilt market short-term will do serious long-term damage.
The Bank of England has already spent over £50billion buying gilts and corporate bonds and has just said it wants to print another £75billion to take the total to £125billion. This is a staggering sum of money! Just to put it in perspective, Council tax, across the entire country, raises under £25billion a year, National Insurance contributions from all workers and employers are less than £100billion a year. It feels as if the authorities have lost sight of the scale of this policy.
But printing such vast amounts of money to buy gilts is even more worrying because of the Governments huge budget deficit (resulting from the money it has already spent on propping up failed banks and the recession caused by the financial collapse). This means the Government actually needs to sell vast quantities of gilts to finance its deficit, not buy them!
I believe the Bank of England has embarked on a policy of trying to inflate our debts away, but is hoping that the markets won’t realise it. This holds enormous dangers for next year and beyond.
As soon as the Bank stops buying gilts, which it must, the market will focus on the UK’s enormous budget deficits. Investors will not want to buy gilts, yields will rise and this will worsen the budget deficit even more. It will also mean people buying bonds today will lose a lot of money!
Quantitative Easing is the wrong policy for the UK. We cannot afford such a dangerous experiment and the likely inflationary consequences are dire.
Firstly, there are signs that the economy is stabilising so further aggressive easing may not even be needed. Prudent policymakers would wait to see if past measures are already working before panicking again. In addition, most of the money will not even reach the parts of the UK economy that desperately need it. Sellers of gilts have largely been foreign institutions, who will just spend the money given to them by the Bank of England on buying foreign Government bonds instead. Even domestic sellers may switch to overseas Government bonds. So, the money the Bank of England is printing is just leaking abroad to help other countries, not us.
Secondly, the policy is dangerously short-sighted. The Bank is artificially supporting the gilt market at the moment, but when that stops who will buy gilts? Our budget deficit and the inflationary dangers of excessive monetary easing make current low gilt yields unsustainable. There will be a painful snap-back when they rise again later, which will be extremely damaging to both the economy and to public finances within the next 1 to 2 years.
Thirdly, the policy is likely to prove very inflationary. The Bank of England itself admits inflation is still above the official target. Short-term downward pressures will be unwound by the end of the year and the longer term inflationary outlook is very worrying. Monetary policy operates with a lag and keeping rates artificially low now is storing up more trouble for later on.
It seems this policy is still more about saving the banks and helping them to return to profitability, than about saving the economy itself. But the sums of money involved here are so enormous and the focus on short-term policy desperation seems to have lost sight of the longer term dangers.
It will be good for savers when interest rates have to go up again, but if inflation picks up at the same time, then they will lose the value of their capital and anyone living on fixed incomes – pensioners in particular – will suffer as inflation rises sharply.
If the Bank of England insists on printing new money, at least the money being created should be passed on to small businesses directly, they are the ones who need it. Instead of giving billions of pounds to foreign investors selling their gilt holdings, we should be giving the money to smaller or medium sized domestic companies. Large firms are able to finance themselves in the markets, but thousands of small companies – who employ millions of people – are at risk. If we can afford to print such huge sums of money, surely we have a duty to make sure it gets to the right places to save businesses and jobs.
A much better solution would be to allow time for past measures to work and consider raising interest rates gently now, to head off inflationary concerns. We got into this mess by focussing on the short term and ignoring the long-term, we are not going to get out of it with more of the same thinking.
Dr. Ros Altmann