This week the Bank of England decided to cut interest rates by another half-point to 0.5 percent, and to take 'unconventional measures', namely quantitative easing. This decision has made many deeply uneasy.
Let's start by ditching the euphemism, and call quantitative easing what it is: printing money. You might be doing it electronically, rather than with paper and ink, but ultimately it amounts to the same thing – creating money out of thin air. And obviously, that sounds very dodgy, so why is the Bank doing it?
Jon Stepak outlines their rationale as follows:
Broadly speaking, we are in a recession because there's not enough money circulating around the economy. This depends on two things: the amount of money available (the money supply), and that rate at which it is changing hands (the money multiplier).
Basically, the Bank thinks it needs to boost the money supply in order to prevent monetary contraction and consequent deflation, and to get the economy moving again. Cutting interest rates, and thus lowering the price of credit, doesn't seem to be working, so now they are going to print money too – £75bn of it, to be exact.
Purely in theory, it sounds possible. An omnipotent and omniscient central bank could perfectly replace the lost money supply, prevent deflation, and stabilize the economy. But unfortunately no such central bank exists.
The trouble is that monetary changes take time to work through the economy. It will be at least a year, for instance, before we can see the impact of the interest rate cuts. So it's really more or less impossible to get a policy like quantitative easing right. It might not have much impact (as in Japan). It might result in another inflationary boom a year or two down the line, followed by another crash like the present one. It could even result in hyperinflation, and the complete economic destruction that would entail.
Clearly, we should never have got into this mess. Central banks should not have let the money supply grow out of control in the first place, and the present monetary contraction should not have become an issue. But now it has, I'm not convinced there's really much we can do other than sit it out, and try not to do any more damage.
