Photo by J D Mack
Last week the Monetary Policy Committee decided to go ahead with another £50 billion round of quantitative easing in which the central bank buys gilts (UK government debt) on the secondary market (i.e. it buys bonds from private holders on the secondary market rather than buying it directly from the government. That’s the theoretical difference which differentiates us from Zimbabwe). That makes a total of £325 billion of new money floating about in the economy.
It’s worth, at this point, briefly exploring exactly what money is these days. There are two measures that the UK normally uses, narrow money supply (M0) and broad money supply (M4). The first, M0, is the total of the physical notes and coins in your pocket and in the tills and safes of companies as well as the deposits from retail banks held by the Bank of England. The second, M4, is the notes and coins held by people and firms other than banks (including the BoE), the total sum of private bank deposits and certificates of deposit.
Allowing for a substantial difference between M0 and M4 is the essential point of having a fiat currency rather than being bound to something like the gold standard. Quantitative easing, as implemented in the UK, expands the money supply by increasing demand for the bonds deposited with the BoE in M0 thus reducing their price and therefore the relative cost of cash to retail banks.
Which they’ve basically then sat on.
The BBC’s excellent Money Box had a section on this where they challenged the way that QE is implemented and questioned why, if the ostensible purpose is to stimulate demand, peoples bank accounts aren’t just incremented by about a £1000 each. Answer from the Institute of Directors representative came there none.
It’d be bloody brilliant. If we’re going to actually make up £50bn in new money that didn’t exist before, which is literally what is happening, why shouldn’t everyone get a cheque in the post? We could make it taxable so the policy would be progressive and still be sanatised so we weren’t directly printing money for government spending which is the theoretical reason countries get in trouble. It’s far more likely that people would spend it directly (or reduce their overall debt) which helps keep the economy going, businesses from going under and people in work.
#1 by Indy on February 13, 2012 - 8:55 am
You’ve just won the next general election. If you can persuade Ed to buy it!
#2 by Aidan on February 13, 2012 - 10:29 am
I really hope we’re not still having to do QE in 2015. Mind you, the way things are going
#3 by GMcM on February 13, 2012 - 11:01 am
Exactly what I was thinking Indy. You wouldn’t need a manifesto any longer than two/three pages (incl cover).
#4 by Barbara Gribbon on February 13, 2012 - 9:26 am
Several years back, at the beginning of the banking crisis, Jon Stewart of the Daily Show suggested that rather than just giving the money to the banks, the inclusion of an extra step where people were given money to pay off their mortgages would be more effective than just giving it to the banks. Ron Paul has now decided he likes the idea too…
Otherwise it’s a bit like handing Scrooge money and telling him he has to pass it to Tiny Tim next.
#5 by Aidan on February 13, 2012 - 10:28 am
Yeah, I vaguely remember seeing that…
Paying off people’s mortgages is a bit unfair to the people who don’t have them though. It does spread out the effect for longer..
#6 by haarandrime on February 13, 2012 - 12:35 pm
The Australian government did it in 2009 giving taxpayers and those on benefits up to $900 either as a tax bonus or as part of the Household Stimulus Package payment. It was reported that it prevented the Australian economy going into recession in 2009.
Some economists suggest that this type of QE a good way of writing down debt as by giving it to those who have mortgages they can pay off some of the debt but it would have to used for that purpose and for those who haven’t a mortgage it can either be used to pay down other debt, be saved or stimulate the economy. It also helps the banks pay down their debt. But will it happen here. Not likely.
#7 by Jeff on February 13, 2012 - 1:44 pm
And to be fair, it’s not £50bn of ‘free money’ for the banks (as Aidan is suggesting it would be for individuals). The banks will have to pay the money back.
#8 by Aidan on February 13, 2012 - 3:03 pm
Eh? it’s not a loan – the BoE purchases an asset, in this instance UK gilts, from the banks and increments the sellers account while not decrementing their own (basically).
#9 by Jeff on February 13, 2012 - 4:49 pm
Glossing over your rather annoying (not to mention misplaced) “eh?” Aidan, I did not say it was a loan, I said that the banks would be paying the Bank of England back when the economy recovers, which is fundamentally different to (1) putting £1,000 in a person’s bank account for nothing and (2) printing money to finance Government debt like Zimbabwe.
I think QE is a great idea at the current time to cheaply and simply loosen out the bandwidth of the UK economy as a whole. What I don’t like to see are banks making £5.9bn profits, as Barclays are, at the same time as businesses can’t win loans to keep their businesses going and have to sack staff. That’s separate to QE though and goes right back to what role banks have in our society, not something that Mervyn King, or George Osborne for that matter, can change overnight.
#10 by Aidan on February 13, 2012 - 6:04 pm
How will the banks be paying the BoE back? I’m really not clear at all about what your saying is going to happen (that “eh” was an “eh” of confusion, not an “eh” of “I think you’re talking mince”, sorry it was annoying)
#11 by Jeff on February 13, 2012 - 8:58 pm
I just can’t get my head around the Bank of England giving £50bn to commercial banks without expecting that money to be repaid down the line. From an accounting perspective the banks would hold a liability on its books that has to go somewhere.
From the BBC (not the least dumbed down resource I grant thee) – “Theoretically, when the economy has recovered, the Bank of England sells the bonds it has bought and destroys the cash it receives. That means in the long term there has been no extra cash created.”
I’m maybe too sensitive to “Eh”s but I read them as insultingly mocking in a ‘you don’t know what you’re talking about’ kind of way (and when the issue is banking and accountancy then I get particularly riled!)
#12 by Aidan on February 13, 2012 - 9:40 pm
AIUI that’s what’s happening with the special liquidity scheme – there’s a 3 year liability on the commercial banks book that has to be repaid.
QE is different though, the BoE is buying them on the open secondary gilt market , banks aren’t coming to it. It can reduce the money supply in the way you describe but that’s not the commercial banks repaying anything, that’s just the BoE destroying money.
I don’t really believe that’ll happen unless we get high domestic inflation and they can’t raise interest rates for some reason but that seems unlikely in the forseeable.
And yeah, I totally see what you mean about that “Eh”, wasn’t intended in that way at all. 🙂
#13 by Chris on February 14, 2012 - 9:50 am
Dr Cash
Cr Investments
#14 by Craig on February 13, 2012 - 4:47 pm
“That’s the theoretical difference which differentiates us from Zimbabwe.”
Actually there are several differences with Zimbabwe. As Jeff points out, the point of Quantitative Easing is that it is temporary. The Bank of England buys gilts from private investors and credits them with the central bank money it has “created”. Once the economy recovers, the Bank of England then sells the gilts back into the market, recovering some (but not all) of the central bank money, which it destroys. So the gap between M0 and M4 narrows again thus minimising the long term inflationary effect.
By buying gilts from private investors – mostly banks – the new money is mostly invested in other illiquid assets (mortgages, corporate debt), so again the inflationary effect is minimised.
By buying longer term government debt and changing the maturity profile of gilts on the market, the Bank of England can assist in lowering gilt yields in the short term. Something that is very important at the moment.
It is utterly disingenuous for politicians to complain about the lack of bank lending when it is the politicians who set the two mutually impossible targets of lending more and recapitalising.
For example, just before the crisis RBS was estimated to have core Tier 1 ratio of just under 2% according to the Basel III rules (admittedly applied in hindsight). RBS will now be required to maintain a ratio of around 10.5%. Although Basel III isn’t supposed to be implemented completely until 2019, governments and regulators are putting banks under enormous pressure to recapitalise as quickly as possible. On top of that the banks have to achieve these ratios while taking large writedowns on Greek debt (and the stress tests apply haircuts to other PIIGS debt). In spite of that the banks appeared to have missed their small business lending target by less than 1%.
Now compare your plan:
It is very short term. It would be extremely difficult to undo leading to persistant inflation. There is no guarantee it will increase demand anymore than QE (any sensible person in the current economy would either save it or substitute it for their spending so that they can save their income). It does nothing for gilt yields.
And it does very little to assist recapitalisation of the banks. As the crisis in Europe has shown, if the banks can’t recapitalise themselves then the Government has little option but to sell even more debt to recapitalise them (which increases bond yields which in turn requires the banks to hold even more capital…and so the cycle continues). Of course you could always let RBS collapse – the job losses alone would wipe out a substantial part of the economy not to mention the loss of lending capacity, no payments (not just accounts but the actually system of accepting card payments for example).
The Australia example is comparable. In that case the cash bonus came from government borrowing, not Central bank intervention. The overall Australian stimulus package is not credited with avoiding recession – the strength of the economy going into the crisis, the limited impact on the domestic banking system and the continuing demand for resources from China all played larger roles.
Another example is Japan in 1998. They handed out vouchers but found that people simply substituted them for their normal spending. After all, if you’re worried about your job you’re not going to go on a spending spree.
Incidentally, creating money and giving it to families would be about the worst possible way to help struggling families -since it pushes up inflation, families will be faced with higher prices and no “cash bonus” to assist. Of course no vote-grabbing politician ever considers that.
#15 by Aidan on February 13, 2012 - 6:01 pm
I don’t recall the BoE promising to unwind QE like you suggest – do you have a link for that?
Flattening the yields of long and short terms gilts in the market is a different thing from QE as practiced in the UK (it’s what the Fed’s been doing as part of Operation Twist II).
You’re right that the reason QE is ineffective at increasing bank lending is because they’re rebuilding capital ratios by holding more and shrinking their books but that’s rather different from saying we should carry on doing what we’re doing.
I haven’t seen the Japan data (link?), but that’s essentially the Ricardian equivalence argument which is true in the long term but not necessarily true in the short to medium term we’re particularly concerned about here.
#16 by John Ruddy on February 14, 2012 - 6:40 pm
The Bank of Japan currently has large quantities of bonds which it has not re-sold after buying them in the 90’s.
The Bank of England is never going to sell the bonds it owns. It simply has too much, and the conditions for it to even sell SOME of them are not going to happen for decades.
#17 by Indy on February 13, 2012 - 6:03 pm
There is no guarantee it will increase demand anymore than QE (any sensible person in the current economy would either save it or substitute it for their spending so that they can save their income).
No they wouldn’t. Normal people – give them a thousand pounds buck shee they will go out an spend it. They’ll buy a new telly or a fridge freezer or something like that and have a bloody good night out on it.
It’s a great idea.
#18 by Chris on February 14, 2012 - 9:51 am
It would stuff the balance of payments
#19 by Aidan on February 14, 2012 - 1:54 pm
That’s true. Could use it to capitalise GIB?
#20 by cynicalHighlander on February 13, 2012 - 7:12 pm
Insanity: doing the same thing over and over again and expecting different results.
Albert Einstein
QE simply takes from the 99% and gives it to the 1%, legalised theft.
#21 by Craig on February 13, 2012 - 8:13 pm
The Bank of England/MPC has made it clear all along that Quantitative Easing would be unwound/reversed/withdrawn in the long term. For example, Adam Posen in 2009.
With regard to Gilt Yields and the maturity profile, the UK is fairly well off as the Debt Management Office did a good job. Unlike Operation Twist, what QE is doing here is simply helping to drive down all gilt yields in the short term rather than trying to flatten yields across the short-long term profile as the FOMC is attempting (without putting more money into the economy).
With regards to putting £50 billion into the economy, the option is the existing QE or your plan. QE is assisting with recapitalisation while the banks are also coming within 99% of the government’s lending targets. Whereas throwing money at the public may not achieve the same effect as lending (many businesses still need to borrow even if their profits are up) and does little to nothing with regards to recapitalisation. We can’t not have recapitalisation so the choice has to be for the method that achieves recapitalisation and does something for the wider economy rather than no recap and doing not much more for the wider economy.
That is precisely the kind of attitude that got us into this crisis in the first place – it’s responsible for record levels of household debt in the UK and the consumer society.
People are beginning to realise they need to save more (more so in light of low interest rates and inflation). They’re in middle of paying down debt. They’re worried about their jobs and lack confidence. You’re not going to give them confidence by giving £1,000 and telling them to go out and spend it.
#22 by Indy on February 14, 2012 - 3:20 pm
I disagree.
From a non-economist point of view – and you don’t get more of a non-economist than me – this is what the present situation is.
The vast majority of the population at present don’t have enough money. They are skint. So they aren’t spending in shops, they aren’t spending in restaurants, they aren’t spending in pubs, they aren’t taking taxis and so on – hence people who work in the shops, who cook and serve the food, who pour the beer, drive the taxis etc are either really struggling tor losing their jobs entirely. So we want to get a bit more money back into circulation so that more people can hold onto their jobs and thus not end up claiming unemployment benefit/housing benefit etc – which the dwindling number of taxpayers have to pay for.
The reason we are in an economic mess is not cos ordinary working class people spent too much money on tellies or fridges or nights out. Relatively speaking, tellies and fridges and nights out are much cheaper than they have ever been before. It was a big deal for a working class family to buy a TV in the 50s and 60s because it was so expensive. Believe it or not we did not have a telly in our house till about 1968. That was pretty normal then. But at the same time other things have become relatively much more expensive than they were then – particularly the cost of housing, and the cost of running a car and the cost of gas and electricity. This is why people have got into debt. Because for many people there was no real alternative to taking on a mortgage that was too high. They needed somewhere to live and access to social housing is very limited. Ditto the cost of running a car – rightly or wrongly many people feel they have no alternative so they just have to grin and bear the high cost of fuel. Ditto the cost of heating and so on. These are not optional extras, people may well have ended up living beyond their means in order to keep a roof over their heads, keep their houses warm and be able to travel to work every day but what choice did they really have when government policy basically decided that high housing costs and high fuel costs were A Good Thing?
So what is the way out of the mess? Say to normal working class people sorry the days of new fridges and tellies are over and forget your nights out? That kind of profligacy is what has got us into this mess in the first place? Even if people actually believe that surely what is needed now is for people to be spending money? And by that I mean normal people – not people who have six figure salaries to begin with and very nobly give up their million pound bonuses? For me that begs the question what would they have done with that million quid anyway? Put it in the bank probably where it would have been, in practical terms, useless. There’s no point people having money after all unless they are going to spend it on goods and services because the exchange of money for goods and services is what keeps an economy going. (I’m not arguing against saving for your old age incidentally but the point of saving for your old age is so that you have money to spend when you get there! Whether it is to pay towards the cost of your care home fees when you reach that stage or to pay for a crazy whirlwind of bingo teas beforehand.)
#23 by cynicalHighlander on February 13, 2012 - 9:24 pm
People are beginning to realise they need to save more (more so in light of low interest rates and inflation).
So that they end up with less as all necessities go up in price as the value of the pound drops, they need to pay of debt and invest in necessary assets while they can afford them.
UK Pound Sterling / Euro FX Cross Rate
#24 by FormerChampagneSocialist on February 14, 2012 - 12:10 am
I generally agree with Craig, but am more cynical about the Treasury’s intention to unwind QE long term.
I agree that they said they were going to do it, but are they really going to be tough on inflation over the next 20 years? History says no. Debt doesnt inflate, and thus is eroded by inflation. The UK has always inflated away it’s debts and I don’t see it stopping now. There is no way that the current ultra-loose monetary policy can be sterilised so as to avoid it ultimately being highly inflationary, and I suspect that the Treasury and Gideon are well aware of this.
Good news if you’re highly leveraged as it looks like money will be cheap for a good while and meantime your debt will reduce in real terms. Crap for savers. Hard to avoid the conclusion that policy makers are rewarding the wrong group of people!
Aidan is obviously a disciple of Bernanke’s helicopter, from which cash would be dropped upon the populace. It would certainly stimulate demand, but personally I’d do scrappage for inefficient old white goods, cars and boilers and 100% voucher schemes for insulation of homes. These would create jobs and reduce energy consumption and thus fuel poverty etc. And scrappage works well and is much less systemically risky than QE. QE really worries me. As far as I know no country has printed money and got away with it in the long term.
#25 by Craig Gallagher on February 14, 2012 - 12:53 am
This is the US Federal government’s tax policy. Every year, most Americans are overtaxed and they’re given a rebate after filing, which they are usually then encouraged to spend on taxable items (unless you live in a zero-tax state like New Hampshire, which means you probably won’t get much of a rebate).
It’s purportedly progressive but there are so many taxable variables – marriage exemptions, state liabilities, percentage breakdowns of social security and federal and state income taxes – that it rarely ever works out that way. Hence Warren Buffet being taxed less than his secretary (which is also because capital gains tax is so low in the US)
#26 by Chris on February 14, 2012 - 9:54 am
QE looks very like a tax on savings. An indirect wealth tax, but as a self employed person I am not wholly kean on my working capital getting taxed!
#27 by cynicalHighlander on February 14, 2012 - 6:03 pm
This is the USA but the warnings are equally the same in the UK.
Deliberate implosion of US economy – Former Bush Sec. of Housing Catherine Austin Fitts c47mins long