SMPC votes seven/two to hold Bank Rate - July 2010

Members concerned about aspects of the emergency budget

In its latest poll, the Shadow Monetary Policy Committee (SMPC) voted by seven votes to two to leave Bank Rate unchanged at 0.5% when the Bank of England’s rate setters announce their next rate decision on Thursday 8th July. The two dissenters both voted that Bank Rate should be raised to 1%. There was no strong bias as to where rates should go in subsequent months, or whether Quantitative Easing (QE) needed to be re-activated. This was largely because of the uncertainties involved. Two particular unknowns were: firstly, the extent to which the problems in the Euro-zone would impinge on the British economy and the government’s funding costs; and, second, the extent to which over-enthusiastic financial regulation at either the G-20 or domestic levels might cause an implosion of money and credit as commercial banks were forced to re-engineer their balance sheets.

The SMPC contains several well-known fiscal commentators, as well as representing a concentration of monetary expertise. A widespread reaction to the 22nd June Budget was that it represented a set of harsh but necessary measures overall, without which the government’s credit rating might have collapsed. Members of the committee had some specific reservations about the Budget measures, however. One was that the ‘front-end loading’ of the tax increases and the ‘rear-end loading’ of the spending cuts was misguided from a macroeconomic perspective. It also asked people to take it on trust that spending discipline would be delivered, despite the appalling fiscal record and false political reassurances of recent years. There was further concern that the increased VAT would exacerbate inflation expectations, reduce output and employment and worsen the public finances, because of its adverse second-round effects. More generally, it was feared that Britain may be on the wrong side of the Laffer curve now that government spending accounts for 53.3% of factor-cost GDP.