My column for the FT is online (as well as in the paper).  You need to subscribe to read it.  Of course you should … In brief, I say that to make it work, we need “politicians to reassert control over what is a mix of fiscal and monetary policy. Parliament will pick up the bills for QE, whether it succeeds or fails. This makes it still more remarkable that our political leaders are silent about what may turn out to be the only weapon left for staving off recession.”

Osborne spoke this evening. He reiterated a commitment to inflation targeting, worshipped Reinhart and Rogoff,  again implied (silly) that having more housing costs in CPI would have made a big difference, talked of more macroprudential tools.  The closest he has come to suggesting the Bank’s purist approach may be failing is:

Indeed we are in danger of making similar mistakes in the aftermath of the crisis, with too little consideration of the impact of higher capital and liquidity requirements on overall financial conditions and the pace of recovery.  And despite everything we know about the aftermath of banking crises, there is still no single institution that is responsible for ensuring that the monetary transmission mechanism is functioning as it should, so that policy rates are properly passed through to businesses and consumers.

The Monetary Transmission Mechanism is NOT functioning, clearly.   But fixing it means – politicians getting involved.  Subscribe to the FT, you must ….

Osborne robustly defends giving the whole caboodle to the Bank.   And (note, Robin Hooders), he is not against taxing banks.  Just taxing transactions.

I also believe we should pursue international agreement for a levy on the banking system, similar to the levy on wholesale funding proposed by President Obama or the levy already implemented in Sweden

The big headlines will be generated by his reemphasising the “cut now, cut deep” thing that was fashionable in September, then not fashionable, then fashionable again, then not.  I think this logic is plain silly:

A credible plan is not really credible unless you’re prepared to make a start on it this year.

A plain assertion.  I am planning to jog 100 miles a month this summer.  I am not going to start now.  It would not be a good idea.

He also claims that private demand is weak because of uncertainty, that would be removed if the government got cutting now.

Businesses and individuals look to the future, and while they are not the perfectly rational creatures assumed by the theory of Ricardian equivalence, uncertainty over the future paths of tax rates and government spending does play an important role in their behaviour. This is particularly true when it comes to consumer spending and business investment, and as the Governor has made clear, the Bank of England tries to take these effects into account when making its forecasts. So a credible fiscal consolidation plan will have a positive impact through greater certainty and confidence about the future.

I can vaguely see how this might apply, though not in quite the same way as Osborne.   If you thought there was a real risk of an interest rate spike in 4 years, you might do nothing now.  But I think Ricardian equivalence is nonsense as a mechanism right now. And rates are 4% long term. So it is not uncertainty about taxes that would bother me as a businessman, but a worry that August 07 might happen to me again.  So dealing with monetary policy is the crux.  But this does interact with fiscal policy, which Osborne concedes.


He makes a better point about the suddenness of a debt crisis.  The sudden stop.  August 07. This is true.  But the UK’s debt maturity speaks against this being such a risk.

All in all, this is a long, interesting and detailed speech with a real grasp of the theory – as far as this economist can tell.  I don’t agree with some of its conclusions.  But I would query anyone who thought Osborne was stupid – he is not.  But he may be wrong.


20 thoughts on “Politicians and QE

  1. “QE is something you read about before going to your bank to be refused a loan.” Nice…

    Politicians may well need to become more involved in BoE policy, perhaps in the form of an infrastructure bank of easing lines of credit to small companies as you suggest. A simple repeat performance of QE as it stands, though, really would be useless – and yet I’m not convinced the main parties would consent to what would surely be seen by free-market small govt fundies as ‘political interference…’

    As for Osborne, he may well not be stupid, but that doesn’t excuse him coming out with several gallons of wrong – dogmatically pursuing his cuts agenda this year regardless of how recovery is going would inf fact not just be wrong, but stupid…

  2. Osborne gave the speech. That does not mean he wrote it or fully understood it. He needed something to reassure a City audience that he was heavier than most have recently suspected him to be.

    He also needed to address internal Tory concern over his and Cameron’s effectiveness. They have probably concluded that there is an association between a narrowing of their polling lead with softness on fiscal consolidation.

    As Osborne told the Today Programme this morning, when asked whether he agreed with Clark that the cuts required would in % terms exceed those taken by any modern government he replied, “Yes, tougher than Mrs Thatcher.”

    Time to get reading about Geddes and watch for any reaction in the polls over the next fortnight.

    1. Those polls never move beyond margin for error. And it WILL be tougher than Thatcher. There is no way round that. Less family silver to sell…

      yes, it was a very political speech

      I suspect that cuts can’t be accelerated anyway, for administrative reasons.

      (Amazing, if I ever want to stir controversy, I just need to say “Osborne is not stupid”.)

  3. Can anyone seriously believe you can become Shadow Chancellor by being stupid? So they all sit down at Conservative Party HQ when they`re recruiting PPCs and someone says: “Right. Give me a list of all those who don`t have a GCSE in Maths and arrange interviews with them all. Before I see them just screen them to make sure they`re all stupid right wing public schoolboys”. Give me a break!
    The Osbourne challeneg is to be different without being specific. If he gets into any of the Darling agenda, he legitimises the Government`s position simply by discussing it. If he names a specific proposal of his own, he excites an immediate chorus of “Stupid Boy- Choking Off The Recovery-Privileged-Toff-Grow Up”. So he sticks with the mantra that works for him. But its political not economic, because politics is what he does. And when he becomes Chancellor (which he will), with a working majority (which he will get), he will employ economists to help him devise some sort of
    programme, which may get him through the chaos and mayhem his main abusers have left behind.
    The abuse he gets then will seem like a kindergarten compared with now. But the programme will be pragmatic with a touch of politics, not the other way around. PS I never went there but my godson, who did, and got a 2.1 at Oxford in PPE, says you have to be able to read and write to get into Eton……

    1. I think he is a clearly a very bright politician, and at the least gets well qualified economics advice.

      Didn’t he go to Winchester….?

  4. A good article in the FT today, Giles.

    I don’t know if you saw Professor Roger Sandiland’s letter in the FT on Tuesday, but I thought it worthy of blogging here….

    ….and shortly in Labour List depending on Alex’s queue of posts.

    In my view QE is to all intents and purposes equivalent to redeemable preference shares in UK Plc,and its about time the chancellor started issuing them.

    1. I think that letter was really interesting – thanks for linking to it. Other readers: you can get it on the blog link above. i don’t necessarily agree with the conclusions but they are worth reading.

  5. I t is with continuing trepidation that this non economist ventures to post here and to suggest that what Professor Sandiland is advocating (and I have previously petitioned for here) is described by the IMF’s DCE equation which links changes in the money supply to the way the PSBR is funded – the mechanics of which were imposed by the IMF on Healey in the ‘70s (in reverse) to reduce the money supply.

    If the Government pays a nurse’s monthly wage with a cheque on its account at the Bank of England, the nurse then takes the cheque to his bank. The nurse’s bank presents this cheque at the Bank of England. A deposit has been created. Up goes the money supply because of this increase in Private Sector Lending to the Public Sector.

    If the nurse spends this ‘new’ money then AD as been affected. If the nurse uses the funds to pay off an extra amount of his mortgage down goes the money supply because of the decrease in Private Sector lending to the Private Sector).

    However, if this procedure is used for investment spending by the Government on infrastructure (as the Professor advocates) this would create at least one round of spending on material, a legacy of increased capacity and, if spent on particular projects, some social and economic gains. If this action is supported by a communications campaign around a National Recovery Plan to raise optimism and show a sense of purpose it should affect positively firms’ willingness to invest/restock and the population’s propensity to consume.

    There were plenty of important public/private infrastructure projects with planning permission and at the ready which faltered and were shelved in late 08, so lags in getting this approach up and running would have been minimal.

    It could be that the reason the Governor of the Bank of England promoted QE was because he thought it would be more easily reversed and would not run the risk of reintroducing politicians to this potentially (in other times) inflationary and superficially attractivew way to finance its spending.

    Possibly we are already too late for the politics to bear this appraoch now. If so, history could judge Brown and Darling’s willingness to go along with QE (rather than this more direct way of increasing aggregate demand) as their greatest mistake and a tragedy for the nation.

    1. Bill

      I can see the clear influence of Congdon here! But I still don’t see how it changes the marginal propensity of the nurse to consume. She is going to spend that new money, anyway, isn’t she?

      I think the meat of your proposal concerns boosting confidence. How that is done is key.

  6. @ Bill leBreton

    Good post, especially (like me) from a non-economist.

    “The nurse’s bank presents this cheque at the Bank of England. A deposit has been created. Up goes the money supply because of this increase in Private Sector Lending to the Public Sector.”

    The money supply increases, yes, but the credit which the BoE has created is – like all money eg notes and coin – undated. In my view, such (interest-free) undated credit has more in common with a redeemable preference share than it does with interest-bearing debt.

    If £1m of such QE is invested in (say) a 1MW wind turbine then the outcome over a 20 year life is an Energy pool of maybe 50,000 MwH. At (say) £50/ MwH that should leave quite a bit spare for an ‘energy dividend’ after development/ operating costs.

    Similarly, if QE is used to create affordable housing, then it will generate a ‘rental pool’ over time undoubtedly far in excess of the cost of the land and buildings, and this pool will be available for sale to pension investors, thereby enabling the QE to be retired.

  7. Just briefly on influences, Giles. You’ll see from a post a while ago at LDV that I have been banging on about this use of the PSBR funded by private sector lending to the public sector for a long time. My influence is David Gowland. I attended a couple of courses he ran in the early Eighties. Gowland was an adviser to Callaghan in the Seventies, a very bright young thing and an authority on control of the money supply. Gowland and Congdon would probably have had similar educations and experiences.

    The use of the nurse example was to personalise and help visualise a human being dropping into their bank to present their cheque from the Government. That is also why I looked at the example of the nurse then ‘destroying’ an identical amount of money if he uses the funds to pay off a mortgage or bank loan.

    When in the jaws of the liquidity trap, the stimulus has to come from commissioning by Government, although the delivery can and should be done by the private or third sectors. If the Government spends on projects that increase physical and intellectual capacity, as cjenscook suggests, it delivers an important legacy.

    I have long argued that this ‘crisis’ was an opportunity to transform our country, modernising the economic, social and political landscape. Each stimulus must come with strings attached – every project must produce greater freedom for individuals and communities. Both of cjenscook’s suggested projects, increasing sustainable energy supplies and affordable housing, meet that qualification.

    This approach requires very special political leadership, first to visualise and communicate this vision, then, to co-ordinate support and drive through the projects. We have 69 nine days to find one or two party leaders willing to adopt this strategy.

    Know anyone who could help?

  8. A good note Giles in the FT. I broadly agree with you that the central bank could do more to ease credit for those further down the scale from large corporates.

    ‘ Both have been proved wrong. £200bn later, money and spending are barely any higher. Bank lending is stagnant and there has been no hint of hyperinflation. So far QE has only helped those borrowers who did not need the help: government and large businesses. For the rest, the credit crunch never ended – QE is something you read about before going to your bank to be refused a loan. ‘

    I think this is slightly unfair as it implies that with money, spending and lending unchanged that would have been the same situation in the absence of QE. Without the Bank expanding the monetary base through QE, the record issuance of corporate bonds and narrowing of the spread between gilts simply would not have occurred. The same applies to rights issues. Therefore, large corporates would have been as credit constrained as smaller firms appear to be.

    ‘ This means that QE needs serious reform – which implies political involvement. The next chancellor should make the Bank follow the US Federal Reserve and turn QE into “credit easing”. By co-operating with the Treasury, it can bolster some of the schemes that channel credit to ordinary companies. For example, it could help to expand the Enterprise Finance Guarantee, which supports small company lending. ‘

    What you are describing is qualitative easing. You are right the direction for this should come from the Treasury for an independent central bank as they are underwriters of the credit risk. The charade of an independent MPC asking the Chancellor for permission for quantitative easing was a nonsense as they did not need permission. Qualitative easing is quite different and Treasury permission is a must.

    ‘ It could support mortgage securitisation through purchases of covered bonds. ‘

    They already do this through the Special Liquidity Scheme by swapping mortgage-backed securities for Treasury bills. It is a Treasury risk as it is their liability and not the Bank. The Treasury bills never appear on the BoE or Treasury balance sheet and are not accounted for as national debt. Who knows how many are out there but as Treasury bills with less than one year maturity in the UK they are not recorded as public debt.

    ‘ It could finance a National Infrastructure Bank…’

    A good idea but I suppose it depends what the NIS does. With the central bank directly financing if they invest in firms could this not breach EU rules on state aid?

    ‘ But the Treasury already underwrites the massive risks that are being taken on the gilt market. ‘

    If a central bank is purchasing government securities then the central bank can’t assume any more risk than the sovereign. Therefore, the Treasury can’t underwrite the risks because they are the risk.

    ‘ Future taxpayers are funding a current stimulus – a classic example of fiscal policy and therefore a matter of political responsibility. ‘

    I do not understand what you mean in the context of this article of ‘ future taxpayers are funding a current stimulus ‘. The central bank’s activity in the gilts market has no direct bearing on taxpayers other than saving them money. In qualitative easing it would be different and taxpayers could suffer losses.

    ‘ Despite the Bank’s concern about picking winners in the private sector, its policy has done exactly that. It has helped create a surge in asset prices that has benefited the wealthy and the financial sector above all. Given all these quasi-fiscal effects, there is no sense in the Bank treating credit risk as a dangerous abomination. ‘

    It would dramatically change the composition of their balance sheet and they will not do it without political direction. They could finance it by selling gilts but this would raise borrowing costs for the government so the benefits may be offset. Another way would be to issue central bank bills and bonds probably to the banking sector. These CB bills and bonds are quite common in emerging markets.

    1. Richard

      Thanks for a really expert reply. I hope you find that my paper has been more fair than my oped, particularly in terms of taking the nonQE counterfactual. I need to think hard about some of the other stuff . On the “future taxpayers current stimulus”, I guess my logic is
      – QE has involved paying “too much” for gilts
      – the Too Much is indeminfied but will only really come due in 3-8 years (say)
      – by doing so it has enabled more debt-financed fiscal support than otherwise
      – so in some ways the affair has debt-like characteristics

      SO I am not sure that taxpayers are being saved money – because ultimately they may be overpaying a current government, and a future government will bear the cost. I hope again the paper makes it a bit clearer. Or otherwise I’ve got something wrong.

      I took the covered bond position following a lead of Buiters.perhaps by being more permanent it then gives more support.

      Sorry got to rush, screaming children

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