Monday, October 10, 2011

With inflation approaching 5pc, do we really want more QE?

On the basis that inflation is better than depression, I suppose it is just about possible to go along with the Monetary Policy Committee's decision to increase "quantitative easing" by a further £75bn.

But I worry about it. I worry both that it will be ineffective in terms of stimulating investment and growth, I worry that it is going to be very difficult for the Bank of England to unwind these now vast holdings of government debt, I worry that we are now perilously close to outright monetisation of the deficit (a policy approach which all economic history shows ends in abject disaster), and I worry that ultimately, it's bound to be inflationary.

In a speech two or three weeks back, Adam Posen, until recently an outrider on the MPC in demanding more QE, said that such fears were "unfounded" and "unwarranted", but answer me this. How's the further plunge in the value of the pound that greeted this announcement not inflationary? Even the Bank of England's own analysis of the effect of QE to date, which is based on quite questionable methodology, estimates that it has added 0.75 to 1.5 percentage points to CPI inflation for a maximum gain in real GDP of 2pc. That doesn't seem to me to be a particularly good trade off.

And you cannot help but think that the long term impact of all this money printing is almost bound to be highly inflationary. Already, the Bank of England has bought up around 20pc of the national debt, equal to some 14pc of GDP. This will expand it to close to 30pc.

Since a fair old chunk of this debt is in the form of inflation protected gilts, which have not been part of the asset purchase programme, the proportion of the conventional gilts market that will be sitting on the Bank of England's balance sheet by the end of the latest batch of purchases is going to be rather more than a half. When something looks mad, it generally is. Yields on ten year gilts are already at historic lows at less than 3pc. Is it really sensible to be driving them even lower? more