With the UK economy looking gloomy, there’s talk of the Bank of England launching another batch of quantitative easing. But that might just make things worse, says John Stepek.
the best thing the Bank could do is to do nothing, and admit that there is no magic wand it can wave to bring back the boom years.
The UK economy remains sluggish.
High street sales were feeble in September, according to the latest Confederation of British Industry survey. Sales of ‘big-ticket’ items – such as washing machines, furniture and carpets – fell heavily.
This shouldn’t come as a huge surprise. The average family is poorer by around £60 a month than it was a year ago, reckons supermarket group Asda. The company has been keeping track of household incomes since January 2007, and the latest fall was the worst it’s yet recorded.
Even Domino’s Pizza – the takeaway chain and dynamo growth stock – reported that like-for-like sales growth has slowed. Meanwhile, pawnbroker Albemarle & Bond unveiled yet another strong set of results earlier in the week.
Weak sales, lacklustre demand for even basic takeaways, roaring trade at pawnshops – it’s not exactly Dickensian, but it’s not very cheery either.
And the Bank of England might be about to make things worse.
What is the point of more QE?
The UK economy is in a gloomy state, and the rest of the world looks wobbly too. So now there’s a lot of talk of the Bank of England launching another batch of quantitative easing (QE), with most pundits betting on November. This would be QE2 for us (we’re one step behind the Americans, who’ve already had their QE2).
But in the rush to ‘stimulate’ the economy, no one seems to be asking – what’s the point? QE seemed to function in two key ways. It weakened the pound, and it pushed down gilt yields (ie it made it cheaper for the government to borrow).
Gilt yields are already incredibly low, so it’s hard to see how more QE will drive down lending costs in any helpful way. So you’re left with the impact on sterling.
A falling pound is meant to make manufacturing more competitive. Trouble is, manufacturers also need someone to sell their goods to. If Europe – our biggest trading partner – is going down the toilet, then a weaker pound is not going to help a great deal. So it’s hard to see how QE can do anything to prevent a recession, if that’s our eventual destination.
That leaves you with the other side-effect of a weak pound: inflation. As the pound falls, imports cost us more. As we’re hardly self-sufficient in food, energy or dirt-cheap consumer goods, that means the price of almost all our necessities goes up.
Now if we were in imminent danger of rampant deflation, you might be able to credit the Bank’s sense that there’s an urgent need to ‘do something’. You may not agree that deflation is the disaster scenario that everyone thinks it is, but you could at least see why the Bank might be worried about breaching its inflation targets.
But consumer price index (CPI) inflation in the UK is running at 4.5%. There’s a long drop ahead if there’s to be any danger of it falling below the 1% (chance would be a fine thing!) at which Mervyn King has to write a letter to George Osborne.
So let’s sum this up. Britain remains a consumer-driven economy. Growth is weak because consumers don’t have much money. That’s because they are still heavily indebted, credit is still hard to come by, and their wages aren’t keeping up with the rising cost of living.
The Bank should admit it can’t do anything
The Bank’s apparent solution to all this is to make the cost of living rise even faster. This makes no sense. As former Monetary Policy Committee member Andrew Sentance wrote in the FT the other day, monetary stimulus policies across the globe “have not boosted growth. Rather they have led to relatively high inflation. More stimulus is likely to result in more of the same, while doing little if anything to support growth.”
So what would Sentance do? He talks about policy makers getting their act together, but his basic argument – which I’d heartily agree with – is that we just have to put up with cruddy growth for a bit, while our economies adjust. If governments feel they need to ‘do something’, they should be “ensuring labour markets are flexible; the business climate is not encumbered by excessive regulation; tax rates are as low as they can be; and tax structures are efficient and reward enterprise and innovation”.
None of that falls within the Bank’s limited remit. So the best thing the Bank could do is to do nothing, and admit that there is no magic wand it can wave to bring back the boom years.
As for politicians – well, Sentance’s ideas are a good place to start. Most of them fall into the category of arguing the government should ‘do less’, rather than ‘doing something’.
What if the Bank does launch QE? Well, we’ll end up with a weaker pound and higher inflation. It’s one reason why we’d stick with the usual big blue chips (particularly those that benefit from a stronger US dollar), and also have that gold tucked away as insurance.
Meanwhile, our own Matthew Lynn has an interesting take on what George Osborne could do to boost growth in the next issue of MoneyWeek magazine, out on Friday. If you’re not already a subscriber, subscribe to MoneyWeek magazine.
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