Best of the Week
Most Popular
1.Gold Price Trend Forecast, Where are the Gold Traders? - Bob_Loukas
2.Stocks Bear Market of 2017 Begins? Shorting the Dow At its Peak! - Nadeem_Walayat
3.Betting on President Trump Leaving Office Early, Presidency End Date - Betfair Market - Nadeem_Walayat
4.Why Stock Market Analysts Will be Wrong About 2017 - Clif_Droke
5.Is This The Best Way For Investors To Play The Electric Car Boom - OilPrice_Com
6.Silver Price 2017 Trend Forecast Update - Video - Nadeem_Walayat
7.Gold Price Set For Very Bullish 2017, Trend Forecast - Austin_Galt
8.10 Things I learned From Meetings With Trump’s Transition Team - - John_Mauldin
9.How Investors Can Profit From Trumps Military Ambitions - OilPrice_Com
10.Channel 4 War on 'Fake News', Forgets Own Alt Reality Propaganda Broadcasting - Nadeem_Walayat
Last 7 days
The Mother of All Financial Bubbles will be Unimaginably Destructive when it Bursts - 19th Feb 17
Gold’s Fundamentals Strengthen - 18th Feb 17
The Flynn Fiascom, the Trump Revolution Ends in a Whimper - 18th Feb 17
Not Nearly Enough Economic Growth To Keep Growing - 18th Feb 17
SPX Stocks Bull Market Continues to make New Highs - 18th Feb 17
China Disaster to Trigger Gold Run, Trump to Appoint 5 of 7 Fed Governors - 18th Feb 17
Gold Stock Volume Divergence - 17th Feb 17
Gold, Silver, US Dollar Cycles - 17th Feb 17
Inflation Spikes in 2017, Supporting Gold Prices Despite Increased Odds of March Rate Hike - 17th Feb 17
Roses Are Red... and So's Been EURUSD's Trend - 17th Feb 17
Gold Trade Note Sighted - 17th Feb 17
Gold Is Undervalued Say Leading Fund Managers - 17th Feb 17
NSA, CIA, FBI, Media Establishment 'Deep State' War Against Emerging 'Trump State' - 16th Feb 17
Silver, Gold Stocks and Remembering the Genius of Hunter S. Thompson - 16th Feb 17
Maps That Show The US’ Strategy In Asia-Pacific - 15th Feb 17
The Trump Stock Market Rally Is Just Getting Started! - 15th Feb 17
Tesco Crisis - Fake Prices, Brexit Inflation Tsunami to Send Food Prices Soaring 10% 2017 - 15th Feb 17
Stock Market Indexes Appear Ready to Roll Over - 15th Feb 17
Gold Bull Market? Or was 2016 Just a Gold Bug Mirage? - 15th Feb 17
Here’s How Germany Buys Time From China - 15th Feb 17
The Stock Trader’s Actionable Guide to Trump - 15th Feb 17
Trump A New Jacksonian Era? The Fourth Turning (2) - 14th Feb 17
Stock Market Yet Another Wall Street 'Witch's Brew' - 14th Feb 17
This Is Why You Don’t Own A Lot Of Stocks - 14th Feb 17
Proposed Tax Reforms Face Enormous Headwinds - 14th Feb 17
BBC Inside Out Tesco Rip off Offers - Determined to Lose Big Spend Customers! - 13th Feb 17
Is the UK An Economy Built on Debt? - 13th Feb 17
Stock Market VIX Cycles set to Explode in March/April 2017 – Part 2 - 13th Feb 17
Stocks At Record Highs - Will Uptrend Accelerate? - 13th Feb 17
US Dollar: 'Rumors of My Death are Greatly Exaggerated' - 13th Feb 17
Is This The Top Commodity Play For 2017? - 13th Feb 17
Trump a New Jacksonian Era? - 13th Feb 17
Stock Market at High Tide - 13th Feb 17
Channel 4 War on 'Fake News' Ends - The New News Age - 12th Feb 17

Market Oracle FREE Newsletter

State of Global Markets 2017 - Report

What Does the Bank of England Think It's Doing?

Interest-Rates / Quantitative Easing Feb 13, 2012 - 03:27 PM GMT

By: Adrian_Ash

Interest-Rates

Best Financial Markets Analysis ArticleQuantitative easing has not worked as advertised so far. Why push ahead with more...?

"YOU'VE lost control – Bank of England takes over," says the Bank of England's cute little game for school-kids if you let the hot-air balloon you control crash into the ground, rather than happily floating it around the 2.0% annual inflation target.


But if the Bank loses control in the real world? Are there grown-ups ready to take over? And what if the Bank purposefully drives its balloon up into the clouds, so far above its 2.0% inflation target – its primary mandate, set by Parliament, and over-riding the secondary aim of "support[ing] the Government's objectives for growth and employment" – that wage-earners, savers and consumers alike start hurling themselves out of the basket?

We shall never know what would have happened without near-zero interest rates and the first £273.5 billion of quantitative easing. But as the Bank sticks at 0.5% for the 36th month in succession – and starts creating a further £50 billion in new money – we can say what has happened with them:

  • For every £1 the Bank of England created from nowhere since March 2009, the total UK money supply grew by only 35p;
  • For every £1 million the Bank has created, more than two people have become unemployed;
  • Finance-sector salaries outpaced the average wage (rising 8.8% vs. 5.0%), but still lagged the cost of living (up more than 11% on the Consumer Price Index);
  • The average house price rose almost 10%, while the FTSE All-Share index rose by nearly two-thirds. Both were beaten by gold (up 70%) and silver (130%).

Was this really the aim? Let's ask the Old Lady herself.

"The purpose of the purchases [according to the Bank of England's own information] was to inject money directly into the economy in order to boost nominal demand."

Two ideas there then – injecting money into the economy, and boosting demand. Neither are part of the Bank's primary mandate, remember, but both ideas have stuck, albeit in the popular imagination more than reality. "Bank injects £50bn into economy," announced the BBC last week, "to give a further boost to the UK."

But while the Bank has already created and spent more than £273 billion on buying government bonds in the last three years, the UK money supply (using the broadest measure, known as M4, and covering all the money in banking deposits) has risen by only £97 billion. Gross domestic product has scarcely budged either, rising by only 1.7% (to the end of September) despite the 4.9% actual growth in M4 money.

So for all the good it has done, where did the Bank stick this injection?

Well, "The asset purchase programme is not about giving money to banks," stresses the Bank in its version of Quantitative Easing Explained. "Rather, the policy is designed to circumvent the banking system."

Not that the programme does side-step the banks. Instead, as the Bank of England admits elsewhere, it sees the Old Lady "electronically create new money" and then use it to buy UK government bonds directly from the banks, whether held on their own account or on behalf of their clients such as investment funds and insurance companies. Still, handed this new cash in return for the gilts that they sell, "These investors typically do not want to hold on to this money, because it yields a low return," says the Bank. "So they tend to use it to purchase other assets, such as corporate bonds and shares. That lowers longer-term borrowing costs and encourages the issuance of new equities and bonds."

Simple, right? The Old Lady wants to cut interest rates and boost the level of capital raised by businesses – private non-financial corporations as the Bank calls them, those companies outside finance and banking which everyone's so sure had nothing to do with the bubble or bust. Indeed, "the objective of QE is to work around an impaired banking system by stimulating activity in the capital markets," according to Charlie Bean, the Bank's deputy governor for monetary policy. And yet PNFCs have shared little in the flood of money issued by the Old Lady's computer-key strokes.

Since March 2009, total capital issuance by private non-financial firms has totaled £44.5bn – greater than the £34.0bn they raised over the preceding three years, but that was a time of boom, not bust, so the Bank's stated purpose still begs the question. And the total raised is still nothing compared with the total £275bn "injection".

Once again, then, where did the Bank's "injection" go – and was that its aim?



"Money is not growing quickly enough to keep inflation close to the 2% target," says the Bank of England in an educational briefing for schoolchildren. "The Bank is injecting money into the economy to boost spending to meet the inflation target."

Okay, so here's an outcome the Bank should happily claim for its own. But whether boosting inflation is a good thing or not, inflation has in fact been well above the Bank's official 2.0% target since 2009. So far above, that governor Mervyn King keeps having to write open letters to the government – as he must under the policy framework established when the Bank gained full control of interest rates in 1997 – explaining why he's repeatedly let inflation breach the upper 3.0% limit for the last 24 months in succession.

The risk of under-shooting inflation looks awfully thin, and the perils of under-shooting might seem academic as well. Because incomes have failed to keep up with inflation – the very opposite of those "second-round effects" so feared by the Bank under Sir Mervyn when it failed to raise interest rates in the face of the banking bubble that started a decade ago. Today, even indebted households have failed to benefit from the drop in what money will buy. Because inflation only eats into debt when a rising income lets you pay it back faster.

Maybe the Old Lady knows what she's doing. Or maybe she thinks "two" now means "three-point-eight". Or maybe she's just losing sight of her 2.0% inflation target, fast becoming a speck in the distance from her hot air balloon. Or maybe – just maybe – now that the Bank holds so many billions of pounds in government debt, it daren't let the total start falling, for fear of a train-wreck in the gilt market. Once you pop, you just can't stop, and it did after all switch to buying fewer long-term gilts and more medium-term debt at this month's £50bn announcement. Which would fit with fretting about a pile-up of maturing debt in the "medium term", rather than trying to suppress interest rates on 30-year gilts.

Either way, quantitative easing has failed to work as advertised to date. Reviewing the evidence so far, we're genuinely none-the-wiser about why in the hell the Bank is now pushing ahead with more.

By Adrian Ash
BullionVault.com

Gold price chart, no delay   |   Buy gold online at live prices

Formerly City correspondent for The Daily Reckoning in London and a regular contributor to MoneyWeek magazine, Adrian Ash is the editor of Gold News and head of research at www.BullionVault.com , giving you direct access to investment gold, vaulted in Zurich , on $3 spreads and 0.8% dealing fees.

(c) BullionVault 2012

Please Note: This article is to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it.


© 2005-2016 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife