QUANTITATIVE EASING

This is an article that I could have written a few months ago, when the Bank of England stated its intention to begin ‘queasing’. But it has become rather more relevant now that one of the pronouncements of the G20 summit is that the International Monetary Fund (IMF) will itself begin to ‘print’ additional SDRs (Special Drawing Rights, effectively the IMF’s own currency) which its contributor countries can draw down in the shape of dollars, euros, etc.

Note my use of the word ‘print’ in the above paragraph. The days when first world countries used the printing press to increase the volume of money in circulation have long gone, assigned to eras such as Weimar Germany. Paper and ink are still heavily in use in Zimbabwe, of course, but for countries like the UK, where the notes and coins in circulation account for only about three percent of the total ‘money’ in the system, we’re really talking about digits on a computer screen.

Even so, while the phrase ‘quantitative easing’ sounds nice and strategic, in reality it has a similar effect to printing additional bank notes and throwing them out of the Bank of England’s window into the street.

To take a step back for a moment, let’s look at the main blunt instrument used by policy-makers to control the velocity of money and the rate of growth of an economy: interest rates. Set the base rate low, goes the received wisdom, and people will ‘invest’ their money rather than leaving it idle in a bank account earning nothing (or, depending on the level of true inflation, less than nothing). If the economy starts to run away from itself and bubbles form in a particular investment market, interest rates can be raised, increasing the appeal of saving and reducing the relative gains to be made by investing in speculative markets.

So much for the theory. This only works if interest rates are used properly, if they take into account all asset classes in which inflation is occurring and if the Bank of England or the government is seen as credible when it warns about the need for rates to rise. Quite obviously, in the past ten years that has not been the case, with the property asset class hitting bubble territory and being stoked ever larger by unrealistically low interest rates.

I’m not expressing my opinion here: it doesn’t matter what I think about property prices. It’s now widely accepted by economists and politicians (though perhaps not the property-ramping mainstream media) that interest rates were far too low for far too long, and that the resulting inequilibrium and subsequent bursting of the bubble led directly to the current financial crisis.
Read the rest... Economonkey.com

-flynn