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.