My life so far has been punctuated by recessions and economic crises. These have usually been caused by a mixture of wrong government policy and poor Central banking. After all, between them government and the Central Bank wield enormous power to boost output and jobs, or to control inflation and excessive credit. The problem is, they often do the reverse of what is wanted. They have in the past been often unable to read the cycle.
The first bust I witnessed when young was the so called oil crisis recession of 1974, followed by the UK’s ignominious trip to the IMF in 1976 to borrow money. The country was ordered to cut public spending, to reduce its need to borrow. I accepted the conventional explanations at the time, that the first bust was caused by the hike of the oil price, and the second was caused by bad policy in the UK. The first bust also had something to do with excessive credit leading to the need to curb inflationary pressures.
The third recession I lived through was the late 1970s early 1980s one. This was brought on by the UK lurching from money growth and credit expansion that was too easy, to a tough money policy to purge the country of high inflation.
In the 1980s we experienced a longer period of expansion with moderate inflation. This was brought to an abrupt and damaging end by the ill fated policy experiment of attaching the pound to the DM. This policy first took us into rapid inflation. The pound wanted to go up. To keep it down the Bank created and sold pounds across the exchanges, which came back and helped fuel over rapid money and credit expansion. In the second phase of this whip saw ride the pound wanted to go down. The Bank bought up pounds, which tightened credit and money too much and drove interest rates sky high.
From our exit from the ERM we enjoyed a good expansion with moderate inflation up to around 2004. Then the government decided on a major expansion of public spending, which went along with money growth and credit expansion. Total UK borrowing rose rapidly. Despite many warnings to the authorities in the middle 2000s that credit and money growth was excessive, the Bank and the government decided it was just fine and persevered with their reckless expansion. Late in the day they compounded their error by switching too rapidly and too drastically to restrictions on credit and banking liquidity, with the obvious results we saw.
Since 2009 credit and money growth has been modest, compatible with some growth and low inflation. This has been arrived at by tough restrictions on banks making more advances, coupled with extraordinary money creation and bond buying.
Today the Bank needs to be careful. Money and credit growth looked about right before their latest expansionary package of QE and lower rates. They need to remember that they have a twin duty – to keep inflation down as well as to promote activity.