QE: Welcome with Reservations
The Bank of England’s decision to recommence with quantitative easing (QE) should be welcomed with reservations. Another £75bn will be added to the stock of the Bank’s purchases. It’s a good sign that some policy makers are taking the rapid economic slowndown seriously.
As the Bank notes in its statement this slowdown can’t be blamed on global economic factors alone:
The squeeze on households’ real incomes and the fiscal consolidation are likely to continue to weigh on domestic spending, while the strains in bank funding markets may also inhibit the availability of credit to consumers and businesses
This is consistent with yesterday’s data which showed that household consumption has been falling for 4 quarters and that business investment (despite some improvement) remains well below its pre-recession peak.
Perhaps more worryingly for the Bank, the Office for National Statistics’ most recent revisions demonstrate that the recession was actually much deeper than previously thought whereas the Bank’s most recent estimate (contained in the fan charts on growth) suggest that it thought the recession wasn’t actually as bad as estimated. They expected upwards revisions and got heavy downwards ones. This may have been a catalyst for action.
Of course QE isn’t a panacea. Economists still don’t fully understand exactly how it works. The original aim was to boost bank lending – something which certainly didn’t happen. Two years ago the Bank’s Deputy Governor Charles Bean argued that QE helped the real economy by raising assets prices. This, he argued, made it easier for corporate to issue bonds and raised spending through a wealth effect as household’s felt a bit better off.
During the last bout of QE in 2009 asset prices, from the FTSE to house prices, stopped falling and started rising but investment in the real economy continued to fall. The benefits of QE in 2009 disproportionately went to the financial sector.
MPC member Adam Posen last month acknowledged this problem and suggested a new type of QE more focussed on supporting the real economy. Posen argued that QE could be used to directly fund lending to SMEs, something the Bank as whole seems to have so far rejected. This perhaps explains the Treasury’s decision to embark on some form of ‘credit easing’, possibly driven (as today’s FT suggests) by frustration about the lack of action on this front from the Bank.
There is also the widely expressed concern that QE might add to inflationary pressures in the economy and hence increase the squeeze on living standards.
So whilst QE is hardly a perfect policy we can at least take comfort that the Bank recognises that the economy is running into trouble. Of course the Bank alone cannot relaunch the recovery – it can only undo some the damage inflicted by the Treasury. In as much as George Osborne has ever had a ‘Plan B’ this is it – stick with austerity, allow the Bank to engage in more QE, keep his fingers crossed and hope for the best. Sadly this is highly unlikely to be enough to deal with our serious economic problems.