Tuesday 14 February 2012

UK Inflation - A stopped clock is right twice a day

Now for years, the Bank of England has been telling us that we are in a deflationary period where we need low interest rates and ultra easy monetary policy. This has been the case since at least 2008 - so getting on for four full years now.

During that time inflation in the UK has on average been 200 basis points above where the bank has consistently targeted. Even its celebrated fan charts have only just about had a wide enough arc to keep track of where inflation really has been.

Of course, there is much back-slapping today amongst the deflationistas. Indeed, with inflation falling to a mere 3.6% today (only 50% is over target), it maybe that finally in 2012 the Bank get to hit their target.

On the deflationistas side is that they have poured £350 billion of Quantitative Easing into the public sector to sustain the economy and inflation above zero over the past 2 years.

However, the abject failure of the Bank to do its job for 4 years should not go unremarked. Moreover, the fall in inflation may prove temporary if there is a recovery in commodity and oil prices which have fallen sharply - with a war with Iran on the cards and Baltic index rising rapidly it suggest the soft patch for commodity prices may not last long.

Worse for them is the pain inflicted on the real economy. Zero rates and QE have created a zombie economy with house prices held up, the stock market held up and saving and investment decimated. Even bank lending is down in part because the returns are too low to make it worth doing - instead corporates have stored up vast cash to avoid the financial markets altogether.

It's not an economy to be proud of nor a record to be proud of and yet no one has seriously pointed a finger at the Bank of England  - our Central Bank has let us down badly the past decade and yet not a single head has rolled or major change been made.


Old BE said...

"Well I wouldn't start from here".

It's all very well complaining about the bubble which brought us here but you are getting a bit John Redwood. We know that the BoE and government pumped up the bubble which eventually ended in the crash. We know but there isn't much point in moaning about it now. We are where we are.

You guys in the hawk department claimed we were going to have hyperinflation and all lose our shirts, Zimbabwe-style. Funnily enough inflation only got to 5% before falling away quite rapidly. Hardly 1970s levels, was it? Talking about stopped clocks...

I think it's remarkable that the economy hasn't collapsed. The Bank pumping huge amounts of cash into the system has to be at least part of the reason.

I'm struggling to come up with your preferred counter-factual. Let's say that the government had not printed huge amounts of money, where would we be at now? Maybe everyone would have defaulted and we would have started again from scratch, with GDP having shrunk by 75% before growing strongly again, Argentina-style? That would have been fun!

And last week you said that the solution was to print money and trash the pound. Which is it?

BrianSJ said...

Isn't this the change in VAT rate working through?

Mark Wadsworth said...

Aha, you didn't mention the VAT myth, but BrianSJ did.

Short answer, no it wasn't.

Also I second what BlueEyes says, there's not really much intellectual consistency going on.

Electro-Kevin said...

One must also add that housing has been kept up by refugees.

No. Not THOSE refugees.

Refugees from failing pension and saving schemes who now see buy-to-let as their saviour.

This has caused a market for property that should have deflated to affordable levels for average earners by now.

So the middle agers have been saved by shafting their kids and shafting their grannies too.

Sorry to be so blunt but that's what low interest, QE and unhelpful banks all amounts to.

Electro-Kevin said...

Blue - True. I expected to be having to live off turnips by now.

I think that the AAA rating has been kept largely owing to BBC outrage at the 'cuts'. The ratings agencies see this and think the Tories are real about austerity.

I don't think we're even through the thick of it, yet alone anywhere near the tree line.

CityUnslicker said...

Gents - if youwant consistentcy read the Daily Mail.

But - my point here is that unlike the Banks and Government those who made the mistakes are still in charge. So it is relevant to look at their record.

Also, last week I wrote that reluctantly the Government apprach was to do everything to avoid the needed defaults (like in the US) which would allow deleveraging - so inflation would be a quick way out; albeit it terrible.

What the BOE have done is help to create a zombie economy - mainly in the bubble, but in the time since too.

It's not incoherent to criticise the Bank of England! How we get out of this mess is a different story.

Electro-Kevin said...

How do we get out of this mess ?

Shale gas for a start. Defend the Falklands for a second. Pull out of Afghanistan the third. Pull out of HS2 the fourth. Put the money instead into water supply and power generation the fifth. Make Pret a Manger and Costa pay an unemployment levy for every UK citizen applicant they ignore the sixth. Declare that single teenage mums will get no free housing henceforth the seventh.

Do something with banks that refuse to lend to small businesses too.

Some say cut tax. I'm not sure if this will just cause a drop in revenue and a resurgence in buying Chinese tat again.

Whatever. Present methods have resulted in a bit of a jammed system but that is better than where I thought we'd be as Blue says.

Mark Wadsworth said...

EK: "This has caused a market for property that should have deflated to affordable levels for average earners by now. So the middle agers have been saved by shafting their kids and shafting their grannies too."

That's surprisingly anti-Home-Owner-Ist! I thought that only I went round saying stuff like that.

Sebastian Weetabix said...

You're really going to have to find a different name for your opinions than "anti-homeowner-ist". I can tell you're not in sales or marketing...

Anonymous said...

BE: "I think it's remarkable that the economy hasn't collapsed."


The only thing the BoE games are doing is delaying the correction.

House prices rose dramatically, so much so that young workers can no longer afford them.
Sooner or later they will fall back, or wages catch up.

As the debt bubble comes down inflation is taking its place so we wont notice..
But they can't turn it on and off that easily, it will run out of control in the end.

The crisis isn't over.

Old BE said...

Anon, I agree it isn't over. My main point here is that CU is criticising the Bank for predicting 12 of the last two falls in inflation. In return the hawks have been heartily and repeatedly predicting that QE will eventually result in some kind of economic cataclysm, and if that comes true they will be the first to say "I told you so!".

My other point is that there is very little point in observing that the government has got it very badly wrong in the past ten years or so.

Electro-Kevin said...

Anon at 6.20 - for the most part houses did not rise (certainly not with inflation factored in) It's simply that borrowing became more difficult.

Mark W - I've never been particularly property-ownerist. In fact I've always argued that the housing boom had become a substitute for a real economy and that it was at the root of the credit crunch.

Yes. I was saying it before it even happened.

HOME owner-ism, however ... now that's a different thing.

I hate the word 'property' being used to describe housing. An issue of semantics ?


It's the root of all evil.

Electro-Kevin said...

I've had a few to drink, so pelsea excuse me if tht comment seemed a little inconsistent.

CityUnslicker said...

BE - drunks should not be allowed to remain in the driving seat and shoudlbe replaced by sober people.
Of course the car may still crash, but it is the prudent response.

Anonymous said...

Rather a zombie economy than a Greek economy and with what Gordon bequeathed to us a zombie economy is about the best we can expect until we have dug ourselves out of this mess.

I would point out that the BofE QE is supposed to counteract possible deflationary effects so if inflation is relatively high then QE is actually doing its job! The fact that inflation hasn't gone off the scale despite massive injections of money creation shows just how badly it was needed with deleveraging going on apace in the debt world.

I would also point out that the BofE is not independent as Gordon Brown liked to claim. It has targets set by central government and the action it can take to try and meet those targets is basically a mathematical exercise - the outcome of the BofE deliberations can be guessed by anyone with a knowledge of the targets and the levers available to the BofE. They rarely surprise.

Budgie said...

E-K is exactly right that some of the upward pressure on house prices has come from people who have seen buy-to-let as a substitute for their failing pensions (attacked by Brown). There was (is) a knock-on effect - smaller pension funds means less investment in business.

However, much of the overall boom in property came from Brown expanding the money supply in the 2000s. Goods prices were held in check by cheap Chinese manufactureds. The surplus money had to go somewhere so it caused property inflation instead of general inflation as in the past.

Home ownership is good for us. It helps to teach financial sense to people (long term thinking, caring for the property, saving etc), but most importantly it makes us independent of the state.

Budgie said...

CU, the BoE was rather removed from centre stage by Brown, so I find it difficult to attach too much blame to King and the BoE.

Everything Brown did was wrong: destabilising pensions; dysfunctional regulatory system; the FSA; money supply incontinence; property inflation; selling the gold; excessive deficits; etc.

His only good move was keeping us out of the euro. But even that was caused by his bile towards Blair.

CityUnslicker said...

If the BOE had raised rates in 2007 it would have tempered the boom considerably. The boom was a very short lived event - not over 5 or 7 years, but really from 2003/4 to the middle of 2007.

Electro-Kevin said...

Do you think that property will boom again from where it is now ?

Anonymous said...

EK: "for the most part houses did not rise"

Cityslicker: "The boom was a very short lived event"

wtf, erm, short memories guys?

My family bought a house in the late 90's (as an investment), it doubled in value within 7 years, and was a fair bit higher than that at its peak.

It was not a short lived boom, the property boom started from day one when Brown raided the pensions, many of my dads generation switched to investing in property as an alternative.

CityUnslicker said...

Anon - you are quite right re houses, they started a boom in the mid-nineties - hwoever from low post-recession levels.

However, the real boom, the bit that killed the economy started AFTER the economy recovered post-911 when greenspan and brown opened the monetary taps - that is 2003/4 in reality. The leverage built up then was to go from banks at 20x to 50x.

In that sense the financial boom was short-lived; but you are correct to point out that house prices as an asset class were rising from the late 1990's.

Electro-Kevin said...

Anon @ 5.03 - I was talking specifically in terms of the effect of QE on house prices as mentioned by Anon @ 6.20.

Despite record low interest and QE house prices in most of the country still dropped. At best they stabilised. In parts of the SE they have risen - a lot of that is to do with Russian and Asian money; not much to do with British people.

As I've stated before, Greenspan kept interest rates low post 911. They should have risen because of DotCom.

Bin Laden did a hell of a lot of damage to the West.

Anonymous said...

E-K. You've got your cause and effect mixed up. Greenspan reduced interest rates close to zero because of the dot-com crash - nothing to do with bin Laden.