Medium-term policy? Don’t make me laugh!

November 5, 2009

The Bank of England’s Monetary Policy Committee is supposed to set policy to keep inflation as close as possible to 2 percent in the medium term. For a long time, that seemed to work quite well, until the fog of financial turmoil descended, and seeing to the end of next month became almost impossible, let alone a view two years ahead.

Thursday’s statement following the committee’s monthly meeting showed only one thing clearly – that the MPC is groping around in the mist, like everyone else. It’s easy to see the impact of the end of the VAT cut and cash-for-clunkers, plus the rise in petrol duty. As the MPC says, “inflation is likely to rise sharply”.

Well, golly gee. This is not much help. The effects will wash through, obscuring what’s happening to classical inflation, defined as a general rise in the level of prices. The MPC can only point to sterling’s 25 percent devaluation in two years (a force for classical inflation) on the one hand, and its fuzzy “substantial margin of under-utilised resources” (a force for classical deflation) on the other, pick a figure of 25 billion pounds out of the air to inject into the economy, and hope for the best.

Quantitative Easing, as printing money is called, has not done what the Bank hoped it would. Instead of stimulating┬áspending, it’s merely produced a mini-boom in house prices and a rush into assets of all sorts, from government bonds to ordinary shares. Thursday’s statement made no mention of the money supply, which many had believed was central to QE’s role in preventing a fall in final demand.

Instead, the MPC seeks to make a virtue of things, stating that its gilt-edged purchases “have helped to boost asset prices snd improve access to capital markets.” Money supply growth remains stubbornly sluggish, while only Alan Sugar thinks that all deserving businesses are being supported by their banks.

It’s easy to carp at the committee, and the case for runaway inflation looks as weak as that for slump. The best guess, surely, is that we will muddle along, recovering a bit here, sliding back there, until an old-fashioned sterling crisis forces the authorities into shock treatment, or the first signs appear that we are working our way back towards a sustainable balance. The MPC hasn’t a clue either, but they can hardly put out a statement saying so.

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