Yesterday the media discovered “quantitative easing” – a polite way of saying the Bank of England can inject lots of money directly into banks, and can go on to order more to be printed, to try to get things moving.
We were told that after a further round of interest rate cuts, if things were still not working, the authorities would consider this drastic step. Clearly the spinners were worried that the latest plunge in interest rates would not do the job, and they intended to head off any suggestion that the authorities were “running out of options” or had “used up all their firepower”. They all seem to forget that monetary action takes about a year to have a decent impact. That was why I wanted interest rate cuts a year ago, as about now we would be feeling the benefit, with far less of a downturn.
Let me hasten to say I don’t have a mole in the Bank of England, and I don’t receive brown envelopes with interesting papers. Instead I do try to read some of the published information even this government has to put out. That’s why yesterday when others were writing about how the Bank of England could inject more cash into the system after rate cuts, I wrote about how this is exactly what they have been doing on a grand scale for several weeks.
When the authorities foolishly stood by in the prelude to the run on Northern Rock, they triggered the need as they saw it to nationalise that institution. The Bank required the Treasury to take some of the strain of taking it over as the Bank of England was then far smaller than Northern Rock with a balance sheet (from memory) then around 40% of the Rock’s. Today the Bank of England’s balance sheet is two and half times the size of the Rock, so in other words the Bank of England’s balance sheet has expanded sixfold or so.
The actions of the monetary authorities are still like the driver of the car trying to steer by continuously looking in the rear view mirror. All the time the road looked clear behind, they kept speeding the vehicle up. When the heavy traffic of inflation started to appear in the rear mirror they slammed on the brakes. Now they have crashed into the brick wall of recession, they have seen the problem in the rear view mirror, as others pile into the crash. Their first reaction was to clam on the regulatory brakes after the crash, requiring huge increases in banking capital and less lending. Now they see the resulting pile up behind them, them are pressing the accelerator to the floor, but the car is not going anywhere as it has bricks stuck in the wheels. One of two outcomes is possible. The first is the bricks do shake free and we will then be accelerating at breakneck speed, still watching in the rear view mirror. The second possibility is the bricks do not shake free and we just damage the engine, until someone gets the bricks out.
How do we get the bricks out? The bricks are the broken banks. The government sometime soon needs to call them in for proper talks, not for the ritual lecture about lending more money. It needs to discuss how £450 billion of loans and guarantees it has said are available can best be used and help free the banks. The Regulator needs to revisit his capital demands, and come to a transitional compromise over how much capital is needed and on what conditions, so the regulations are not pulling in the opposite direction to the monetary policy. The government needs to protect taxpayers by taking proper security, and start to curb its own appetite for too much borrowing. Instead the authorities seem happy for bank capital to buy its government debt, and may soon be buying up government bonds itself to try to create a “bond bubble”. This would be a triumph of the short over the long term yet again.
For those who like metaphors, a City commentator (I think it was Lombard) compared the actions of the MPC and the Bank to the person in the shower who can never get the temperature right. Tiring of the cold start to the shower, they turn the thermostat to very hot. After a pause they are surpised to be scalded. They wrench the thermostat back to cold. Sometime later they are shivering from jets of cold water. They lurch the control back to very hot…
Please can our authorities learn to get the temperature right soon?