It’s a bit like trying to knock the walls around the squash court down by hitting the ball very hard. So the Bank of England has gone out and loosened.
Who’d have thought it? When interest rates were cut to near zero in 2009, a handful of economists said that they will stay low for many years, but no one predicted that they would stay at that level until 2016 and then... be cut even further, to 0.25%.
So that’s £375 billion of quantitative easing and interest rates at an unprecedented level for seven years. It is just as unique for rates to stay on hold for so long.
Yet it hasn’t been enough.
Despite unprecedented this, that and the other, the UK economy crawls along the bottom, like a piece of primeval slime.
Now rates are even lower and quantitative easing has been extended by £60bn to £435bn in total. And now to add to it all, the UK's central bank is going to buy £10bn in corporate bonds.
Of course, the problem is not just the UK. The Eurozone looks set to enjoy higher growth in 2016 than Britain, but if anything, the region’s economy has been even more troubled, long-term. The US economy may look stronger, but actually, so far this year, it has grown even more slowly than both the UK and Eurozone. As for Japan, well, let’s say it makes the rest of the developed world look good.
Yet the woes in Japan occur despite an even longer period of record low rates, and even greater levels of quantitative easing.
The problem with monetary policy is that it’s a double-edged sword. Rate cuts are supposed to support borrowing, and discourage savings, boosting demand. They are also supposed to lead to higher asset prices, which in turn will encourage more borrowing still and reduce the imperative to save. And we see this manifested in the idea, dominant among many baby boomers, that ‘rising house prices can fund their retirement’.
But lower interest rates also make it harder for banks to turn a profit, which means their capital is not as high as they would like and reduces their ability to lend. Meanwhile, some savers, look at low rates and conclude they need to save even more in order to hit their total savings’ target.
Back in the earlier years of this decade, a debate raged between those who wanted to see austerity and those who wanted government stimulus. The austerity side said that we needed to see cuts in government spending in order for the Bank of England to maintain low-interest rates. A consensus seemed to emerge that the austerity side won. But looking back in hindsight, the ‘austerity but low-interest rates’ argument does not seem so clear cut.
According to the late economist, Hyman Minsky, a growing economy needs growing debt levels. But when you have growing debts level, you get a crisis of some sort from time to time. There is another way of putting it: A growing economy and West Ham supporters have something in common. They are forever blowing bubbles.
So if debt needs to rise in order for there to be growth, and the government tries to cut debt, that means private debt must rise. That is why, for example, in Sweden, where government debt has fallen massively, and there is even a rule that the government must post a 1% fiscal surplus over the course of the economic cycle, private debt has exploded.
In the UK, house prices are the key. They rise, encourage more mortgage debt, funding consumer spending, and we get growth – at least that has been the story for most of this century – except of course, during downturns.
But it ain’t working properly. The private sector doesn’t want to take on more debt, and even if it did, banks are reluctant to lend, and even if they did, we have to ask the question: do we really want them to?
The answer lies in a so-called helicopter money drop, or via governments – using the fact that they can borrow money at close to zero interest rates, at a time when the world seems to want to lend to them – stimulating the economy. So we get investment into infrastructure – which is a slow process – or credits going into everyone’s bank account, via some kind of tax credit.
There is another snag. If the UK did this alone, the end result may be an even bigger deepening in the current account, and maybe much sharper falls in the pound.
No, governments and central banks around the world need to act in consort. On its own, the Bank of England is impotent, mostly.
