Has the Bank of England helped stem economic decline?

December 23, 2009

MarkBolsom.JPG-Mark Bolsom is the Head of the UK Trading Desk at Travelex, the world’s largest non-bank FX payments specialist. The opinions expressed are his own.-

The onset of 2009 saw the pound well and truly on the back foot against both the dollar and euro, at one stage hitting a six-year low against the greenback (falling to $1.3751) and an all-time low versus the single currency. In one week in January, the pound fell 4.5 percent against the euro, 5.7 percent against the yen and 6 percent against the dollar.

The pound’s weakness at that stage was clearly a direct consequence of the credit crunch and resulting global economic slowdown. Nevertheless, as the both the government and the Bank of England opted for policies of aggressive fiscal and monetary stimulus, sterling recovered, to a degree, even as the economy slid into the deepest recession for generations. In response, the Bank of England took positive and decisive action, slashing interest rates to a record low of 0.5 pc and pumping 200 billion pounds into the economy through its asset purchasing scheme.

How successful this has been is debatable. House prices have stabilised and have been slowly rising. The threat of deflation also appears to have receded with November’s data showing inflation more or less in line with the Bank’s 2 percent target. Similarly unemployment has not risen by as much as had been feared. However, as 2009 draws to an end, the government has been forced to revise its own growth forecasts for 2009 downwards, now stating that by year end the UK economy will have contracted by 4.75%. Similarly, some commentators have argued that unemployment data is misleading. True, the number of claimants is still below expectations, but many employees have been forced to accept pay cuts and shorter working weeks.

Worryingly, at the time of writing, Britain also remains the only major economy not to have emerged from recession. The final Q3 GDP number revealed that the economy still contracted by 0.2 percent in the three months to September. Furthermore, significant question marks remain over the long-term sustainability of Britain’s debt, as the government and taxpayer now have to cope with the cost of successive bank bailouts.

Therefore, sterling’s prospects for 2010 look decidedly mixed. Given the level of economic uncertainty we certainly expect interest rates to stay at their current level of 0.5 percent – at least until 2011- as both the Bank of England and the government will want to stimulate economic growth. Traditionally, this could be expected to lead to a further weakening of the pound as demand diminishes. Mervyn King, governor of the Bank of England, has consistently argued that this is needed in order to rebalance the economy and stimulate the UK’s export sector, although such a move is likely to be unpalatable to the UK consumer.

Low interest rates could also be expected to lead to a higher rate of inflation as money supply increases and imports, upon which the UK relies heavily, become relatively more expensive. We could very well see consumer price inflation hitting the 3 percent mark early next year.

Ultimately, the relative performance of sterling will depend as much upon other economies as it does upon the UK’s own economic fundamentals. However, there is little doubt that markets will want to see the key areas of actual economic growth and the burgeoning UK budget deficit decisively tackled, before offering sterling any significant support. These issues are also likely to become major points of debate in the run up to next year’s election.

Whatever the outcome of next year’s election, we expect the pound to remain weak across the board, as the challenges facing the British economy will remain the same, with sterling’s performance over the next twelve months likely to heavily influence future economic policy. King has already put down his marker, arguing strongly in favour of a weaker pound. Quite whether politicians are prepared to follow him remains, as yet, to be seen.

How successful do you think the Bank of England have been in stemming the UK’s economic downturn? Post comments below or email me your thoughts at mark.bolsom@travelex.com

Follow us on Twitter

Comments

100 per cent successful in stemming the money lending tables collapse . But what next. Let us hope that the Growth of economic stupidity will stop. Economic growth is the doubling of people, cities, and pollution. Sheer genius. Citizens do not want it and people do not want it. BUT BUT BUT BANKS, Governments, some economists and ALL legal fiction Corporations LOVE IT. Economists Jesus, Mohamed, llama, etc Samualson Riccardo, Malthus J Babtise Say, and Galbraith do not like it. Friedman ambivalent, Keynes was preoccupied by human potential limited by not enough quantity or Velocity of money. Solution is to focus on the problem of the Juxtaposition of facilities and proximity of amenities in Cities and go car less. KING is correct in all things BUT if he Advocates exporting then he is dead wrong. Being of the cause that it would be Sweeping the problem of having to Import to hide the massive problem of building the cities wrongly for the last god knows how long on low lying London SWAMP and motor car. Probably that self absorbed image idiot Wren Indifferent to Jesus exhortation of Firm foundation and Llamas solid Happiness. However blaming someone else and Stealing more resources and taxing the third world with patents royalties and licences sounds easier as allways.

Posted by Eden and Apple | Report as abusive
 

Time will show that the BoE never stopped economic decline but simply created enormous distortions which will take years to unwind with devastating consequences for the UK economy.

By setting negative real interest rates and unleashing a mad binge of money printing the BoE has injected an uncontrolled dose of steroids into the UK economy. Investors out of fear of having their paper savings debauched and with access to cheap credit have piled into hard assets including stocks, commodities and property. This effect has been replicated globally as central banks have buried prudence in favour of astonishing monetary profligacy.

It is this monetary profligacy that has allowed the UK Treasury to bail out insolvent banks. Together with a complicit BoE, the UK government has concocted a great fraud. Bail out the banks funded by money printed by the BoE. Does this remind you of anything? Madoff, pyramid scheme, mean anything?

Printed money and BoE purchases of gilts have created an unsustainable bubble in gilts. And all the time the gilts market waits for the allegedly severe fiscal tightening that the UK government will undertake to balance the books. But every gilt investor today should be asking whether politicians of any hue will actually have the appetite to make the monumental choices needed? I think not. 2010 will be year that reality dawns on gilts investors – the government and the lackey BoE secretly harbour one strategy to escape this gaping hole – to inflate their way out of their obligations.

When that happens sterling will fall off a cliff, gilt prices will plunge and yields will sky-rocket. The last bubble, the bubble in government bonds, will come crashing down to earth. The BoE will have to make emergency rate rises to belatedly protect sterling, and the government will dust off the IMF begging bowl.

When this is all over, no-one will ever trust fiat currencies again backed only by the toothless paper promises of central banks. The world will have to find an alternative to the erstwhile gold standard (the copper standard?) to create trust in currencies.

And what of the problem of moral hazard the BoE has created? Invest imprudently, if you make money you will be handsomely rewarded, if you lose out, the BoE will bail you out. Sound familiar? It’s the same sort of model used to reward bankers with huge bonuses. Huge opportunity on the upside, limited risk on the downside. How can you run a balanced economy whilst creating such great moral hazard.

The BoE is the thief of last resort stealing from prudent savers and rewarding the profligate. We are in the fast lane to becoming a banana republic. Thanks Mervyn King and the clowns at the BoE for “rescuing” us!

Posted by Haroon Abbasi | Report as abusive
 

Reuters deleted my comment below so re-posting. Could someone at Reuters please explain why it was deleted? It is perfectly reasonable and not offensive.

Time will show that the BoE ne”ver stopped economic decline but simply created enormous distortions which will take years to unwind with devastating consequences for the UK economy.

By setting negative real interest rates and unleashing a mad binge of money printing the BoE has injected an uncontrolled dose of steroids into the UK economy. Investors out of fear of having their paper savings debauched and with access to cheap credit have piled into hard assets including stocks, commodities and property. This effect has been replicated globally as central banks have buried prudence in favour of astonishing monetary profligacy.

It is this monetary profligacy that has allowed the UK Treasury to bail out insolvent banks. Together with a complicit BoE, the UK government has concocted a great fraud. Bail out the banks funded by money printed by the BoE. Does this remind you of anything? Madoff, pyramid scheme, mean anything?

Printed money and BoE purchases of gilts have created an unsustainable bubble in gilts. And all the time the gilts market waits for the allegedly severe fiscal tightening that the UK government will undertake to balance the books. But every gilt investor today should be asking whether politicians of any hue will actually have the appetite to make the monumental choices needed? I think not. 2010 will be year that reality dawns on gilts investors – the government and the lackey BoE secretly harbour one strategy to escape this gaping hole – to inflate their way out of their obligations.

When that happens sterling will fall off a cliff, gilt prices will plunge and yields will sky-rocket. The last bubble, the bubble in government bonds, will come crashing down to earth. The BoE will have to make emergency rate rises to belatedly protect sterling, and the government will dust off the IMF begging bowl.

When this is all over, no-one will ever trust fiat currencies again backed only by the toothless paper promises of central banks. The world will have to find an alternative to the erstwhile gold standard (the copper standard?) to create trust in currencies.

And what of the problem of moral hazard the BoE has created? Invest imprudently, if you make money you will be handsomely rewarded, if you lose out, the BoE will bail you out. Sound familiar? It’s the same sort of model used to reward bankers with huge bonuses. Huge opportunity on the upside, limited risk on the downside. How can you run a balanced economy whilst creating such great moral hazard.

The BoE is the thief of last resort stealing from prudent savers and rewarding the profligate. We are in the fast lane to becoming a banana republic. Thanks Mervyn King and the clowns at the BoE for “rescuing” us!

Posted by Haroon Abbasi | Report as abusive
 

I really doubt it has. Although much economic experts say the opposite.

 
  •