Where now for Quantitative Easing and the Bank of England?

Many moons ago, I wrote an article, amongst the first in the UK in 2008/9 about the thought of the UK trying to loosen monetary policy via quantitative easing. It was something new to these islands and soon enough the Bank of England took it up. 

By expanding the balance sheet of the Bank, and therefore the Government for who m it is an independent subsidiary, lots of cash could be freed to replace the capital destroyed by the losses of the Financial Crash. This prevented deflation in the main and allowed the economy to recover. 

A known side effect, was to create the concept of "free money" for politicians to spend. When QE was put in place, the Micawberish George Osbourne was Chancellor. For all his faults, he was not going to go for this spending surge. 

Why is it free money? Well, the bank issues bonds, but also buys them back from the banks, allowing the banks to make a profit. It also then pays itself interest on its own bonds, sometimes also there is a capital profit if bonds rise in value. The money paid to the banks gets lent into the economy and so increases money supply - M4 as it is known technically. 

Now, in 2022, we have a big mess. After Covid hit, lots of money was used to pay furlough and the cost of the vaccines and general failures of the time. This money was borrowed via bonds and other instruments. This pushed huge amounts of cash into the economy, to stop it from collapsing under the burden of lockdowns. 

After the lockdowns we are now left with a situation of far too much money in the economy (which did not collapse, hooray), with little to spend it on as production is so hit by the pandemic dislocations and now the commodity price spike (which was coming whether war with Ukraine or not, as Mr Drew has repeatedly explained). 

The net effect of this is huge inflation, massive by modern day standards. The Government has responded by deciding to tax more (which does nothing to reduce inflation, the money is all spent again by the Government and more borrowed anyway) and spend more. The Bank of England is raising interest rates to try and cool demand - but demand is way up after the pandemic and external costs of energy and food are not controlled Bank of England interest rate rises.

So for now, too little is being done and although money supply has dropped back to the historic level, there is nothing to compensate for the 2020 splurge to 6x the normal rate. Inflation will be with us a while. 

In the meantime, direct Bank of England interest rate rises clobber borrowers and debtors - long used to ultra low rates. a 2% increase becomes a 200% increase in repayments when your base rate was 1%. Let alone moving rates up to say 5%. It will bugger the economy if they try it, they know this, so won't do it and will let inflation rip as a result, impoverishing us all. 

Which is why I am so perplexed at the refusal to just sell some bonds that they own, it will likely raise money for the Government, reduce the balance sheet and start to withdraw excess capital from the market that is no longer needed. It will have the same impact as raising interest rates, but hit the financial sector harder and consumer sector less. 

It would also unwind the position we are in now, where lots of MP's, stupider than ever as they are these days, see QE as a way to fund all their future spending fantasies that they need to win votes. After all, QE has not bankrupted the County in 12 years of operation and has allowed about an extra half a year of GDP spending during that time. 

Of course this is wrong, but not unwinding QE in 2015 onwards, as the economy returned to normal, we left far too much monetary stimulus in the economy so that when Covid hit it has proved a key cause of the rapid rise in inflation. QE, useful during a monetary crisis of 2008, is really bad during a fiscal crisis like 2022 because it is so inflationary just as Government needs to have an expansionary fiscal policy. 

None of this is rocket science r very difficult to understand, so I am at a loss as to why the Bank of England and the Treasury won't start fixing such obvious problems. 

Inflation watch

Shop price inflation rate increases

The rate of inflation of goods sold in shops increased in December and consumers were warned that more price hikes are on the way.
Shop prices were 2.1% more expensive in December than a year ago, as the rate crept up from 2% in November, driven by the rising cost of non-food items..
Food price inflation remained at 4% in December, but non-food inflation increased to 1.1% from 0.9% the previous month, pushed upwards by toiletries, cosmetics, DIY and home furnishing products.
January's rise in VAT from 17.5% to 20% and further hikes in the price of commodities, such as oil, wheat and corn, are expected to lead to more pain for consumers in 2011.

Its not clear if the lower VAT rate last Christmas, 15%, is allowed for in these figures, but any increase in November December when discounting was all the rage is most unwelcome.

HMG has left interests alone at 0.5% again.
For how much longer though? Another month. Six months more? The January rates are probably not going to panic anyone too much because many non-food retailers, including some very large chains, didn't bother with hiking prices in line with new VAT rate. Food and fuel will have pushed up inflation though.
But by March all new goods will have had the increase added. Spring rise? Buried among the Royal wedding at the end of April?

Is it early too early to think about Christmas?

Cassandra was cursed with gift of prophecy. No one believed her predictions even though they were always true. Cassandra was fated to know the future but to be powerless to alter it.
A bit like Alistair Darling.

Meanwhile outside of mythology you may have noticed USA sizes on your box of trainers or top recently. Shoes are a size down and clothes several sizes different. There is loads on Ebay too.
UK fashion retailers and online shops have been buying stock in the USA for a good few months now. This is more unusual than it seems as the clothes are usually bought in $ in China or the far east and made for Europe and UK specifically.
The USA stock was cheap bargain priced canceled orders, bankrupt stock and liquidators specials as US outlets went bust and others cut back inventory.
Expect all that to end if the £ keeps tanking. Xmas orders need to be bought about now for everyone who put off doing it in Oct/November hoping to pick up bargains. The shipping time is usually 'FROM' 6 months. Leaving it late means a premium to pay for shipping.
Either way, unless the £ picks up quickly, prices will rise. Not just fashion of course. Almost everything comes from overseas and is traded in dollars. Casandra might just conceivably be seeing the inflation genie heading this way for the festive season.

No hyperinflation then?

The Bank of England has come out today (see chart above) and said that as the economy is recovering a bit quicker than expected, that inflation may increase more than it had previously predicted; All very well couched, as usual.

However, it seems to think inflation is unlikely to go to much more than 2% by 2012 and that interest rates will head to the same level by then.

The BOE has been spectacularly wrong during this recession, keeping interests rates too high; might they have gone gone the other way now?

It is not likely, the high chance of a renewed recession next year is discounted, even when a cursory glance at the banks, quantitative easing and government deficit suggest a very bumpy 2011.

As such UK rates will remain low; don't go rushing to fix your mortgages just yet.

Can the UK avoid deflation?

Quite interesting numbers out from the ONS this morning. UK inflation has fallen from 1.6% in August to 1.1% in September. As we said earlier this year, it was always going to be hard to keep inflation in positive territory due to the energy price spike of last year. From October onwards these pressures will fall away.

In addition, the VAT rise in January will be another small boost to inflationary expectations. So all in all it looks on the one hand as if actual CPI deflation will be avoided; in the RPI world we have had deflation for most of the year.


However just look at the trend in the graph below (last month's ONS figures), it shows inflation falling away in a deep trend. Trends change, but this month this one has become more entrenched not less. We only need 2 more months of this trend to end up in CPI deflation.




So what does this all tell us?



1 - There is no sign at all of any real inflationary pressures, people betting on inflation for next year are way out. The Japan style deflationary scenario lay ahead of us with very low interest rates for years to come. Bad for saving, good for borrowing.

2- The Bank of England will probably increase the level of Quantitative Easing in November having seen these figures as it will be worried about scenario one taking hold - horse, stable door situation for them.

3 - The Pound will continue to drop due to 2. If you are making investments, try some denominated in Euro's or Aussie Dollars.

UK inflation down; whereart thou, green shoots?

Figures released today show the relatively stable CPI inflation rate down nearly 20% on last month, from 2.2% to 1.8%. This measure has long been discredited as it removes housing costs which are the biggest single component of most peoples' outgoings in the the UK.

The RPI is much better and this shows a drop from -1.1% to -1.6, drop of nearly a third.

The UK is definitely in a deflationary tailspin and the numbers are going to get worse. Only a year ago oil was at nearly $150 and today it is at nearer $50. There is a huge drop to be factored in over the next 3 months. CPI itself may well go negative for a time.

With this is sight, there is no chance of the UK raising bank rates, nor really do I think the Bank of England will stop Quantitative Easing either, despite the respite they have given in the past month.

It is a big jump to see hyper-inflation from here, it may come to pass if too much money is pushed into the system to try and heal it. However, it looks as if the monetary stimulus is increasingly pushing on a string. The debts need to be paid down and the economy (including Public Sector) needs to re-balance to adjust the the new size of the market.

Shame the Labour government wasted all our money in the good times as now would have been a very propitious time to spend more public money to keep us going; sadly, as we are broke this is no longer an option.

It is a long way up from here, years not months.

UK Inflation; Refusing to conform

This is a story that can be overdone in the reporting of it, but nonetheless is of some import.

The UK CPI inflation rate has dropped from March 09 to April 09 by 0.1%. Instead of 0.3%. Ho hum big deal, the rate is now just 0.1% above the Bank of Balls (that should read England, ed) target of 2%.

However RPI remains firmly in negative territory at -1.2%.

Much of the media is saying that this fall less than economists predicted is very worrying. Well yes and no. Economists tend to get everything wrong and over the past year they have been living up to this reputation spectacularly. It does not matter if things are about by 10 basis points or so.

However, inflation is being loaded into the system via printing money. Just today a very canny hedge fund (up 234% last year, no less) decided that hyperinflation was on the cards and it has started to raise funds for a new fund to make money out of this. last year they thought the banks would all fail, so I for one am not going to bet against them. They have a lot more riding on it than the say so of economists.

CPI does not look like it is going to go negative this year, or to do so only for a few weeks; so hooray for Printing money! The pain of this success is yet to come, that is for 2010 and beyond.