Time for a change of direction in monetary policy

In its latest monthly deliberations the IEA Shadow Monetary Policy Committee (SMPC) voted by seven votes to two to reduce UK Bank Rate on Thursday 9th October. Indeed, four members of the shadow committee were in favour of cutting Bank Rate by as much as 0.5% in October and most had a bias to ease further in subsequent months. Has the SMPC turned dovish?

On the contrary, the SMPC has been perfectly consistent. Most of its members expressed strong public concern three years ago when money growth was getting out of control. They saw that as leading to asset price and general inflation. Indeed, arguably, this was one of the causes of the banking crisis. The Bank of England’s MPC had different theories of inflation, though, and they reacted slowly.

 
At the current time, money supply growth is collapsing. One of the causes of the Great Depression was that the Fed reacted incompetently to an astonishing collapse in the money supply after 1929. The price level fell and the Great Depression followed. The Bank of England’s MPC must not make that mistake. It missed the monetary signals of inflation – will it miss the monetary signals of deflation?

The SMPC was also concerned that the traditional instruments of monetary policy were less effective in current circumstances. One member suggested that changes in the official discount rate were now of as much use as a peashooter in a major tank battle. Perhaps the Bank of England will have to use instruments other than the Bank base rate to loosen monetary policy – though it is already doing that to an extent.

comment from PB: in case you are wondering, this was written 5 minutes before the Bank of England made its decision for an emergency rate cut!

comment from PB: in case you are wondering, this was written 5 minutes before the Bank of England made its decision for an emergency rate cut!

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