Economists never like to use simple words when there are more complex ones available! So, the new term for printing money is ‘quantitative easing’. This refers to deliberate increases in the money supply aimed at preventing deflation. The real concern is whether quantitative easing will stoke up inflationary pressures for the future – the balance between inflation and deflation is a fine line to tread. Quantitative easing becomes necessary when there is danger of deflation and interest rates have already been cut as far as is possible.
Another problem, in the short term, is that an increase in the monetary base may have little effect on broader money (M4 in the UK) if people do not want to borrow and thus credit creation is limited.
The articles below all look at various different aspects of quantitative easing.
Europeans Disagree Drastically On Fed Rate Cut Deutsche Welle (17/12/08)
Financial crisis: Free money coming your way! Telegraph (17/12/08)
Wondering what on earth Nils was on about? He’s written this for you BBC News Online (PM programme) (18/12/08)
Japan forecasts no growth in 2009 BBC News Online (19/12/08)
New economic policy: If you haven’t got enough of this stuff, just print some more Scotsman (18/12/08)
Ground Zero The Economist (18/12/08)
Fed throws out the rulebook Times Online (18/12/08)
Quantitative easing: the modern way to print money or a therapy of last resort? Telegraph (8/1/09)
Forget hard choices. We need pampering Times Online (18/12/08)
Jeremy Warner: Darling wants say on ‘quantitative easing’ Independent (8/1/09)
Questions
- Define the term ‘quantitative easing’.
- Explain the mechanism by which the monetary authorities can implement a policy of quantitative easing.
- Discuss the relative effectiveness of cuts in interest rates and quantitative easing to boost aggregate demand in a recession.
- Analyse the impact on an economy of a prolonged period of deflation.
Sir Alan Walters, one of Mrs Thatcher’s key economic advisers, has died at the age of 82. Though he always tried to shun media attention, Sir Alan attracted a considerable amount of it when he clashed publicly with the then Chancellor, Nigel Lawson, over the Exchange Rate Mechanism (ERM). When faced with the choice from Nigel Lawson that either Alan Walters went or he did, Mrs Thatcher famously chose her adviser over her Chancellor. This lent Sir Alan a degree of infamy in economic circles and he is perhaps known best as one of the most influential monetarists of the period. Sir Alan was an early advocate of money supply targeting and always argued that the money supply should not be manipulated for political reasons. His advice was also key in the budget of 1981 which raised taxes in the middle of a recession, something that in this current recession would appear to be unthinkable.
Thatcher’s economic guru dies Independent (6/1/09)
Nigel Lawson and Thatcher’s guru in a political bloodbath Telegraph (5/1/09)
Mrs Thatcher always agreed with Alan Times Online (5/1/09)
Thatcher pays tribute to Walters BBC News Online (5/1/09)
Thatcher economic adviser Walters dies The Herald (6/1/09)
Sir Alan Walters, Thatcher’s economic guru, dies aged 82 Times Online (5/1/09)
Sir Alan Walters Telegraph (6/1/09)
Mrs Thatcher’s monetarist guru The Economist (6/1/09)
Questions
- Write a short paragraph setting out the key influences of Sir Alan Walters on economic policy in the 1980s and 1990s.
- Explain what is meant by money supply targeting.
- Discuss the effectiveness of money supply targeting in combatting inflation in the 1980s.
- Examine whether money supply targeting might once again be an effective tool in the monetary policy ‘armoury’.
In successive months the Monetary Policy Committee of the Bank of England (MPC) has cut Bank Rate from 4.5% down to 2% – the lowest level since November 1951. The dramatic changes show that the Bank is concerned that inflation and economic activity will fall sharply. Indeed the Governor has recognised that there is a possible danger of deflation (defined, in this context, as negative inflation: i.e. a fall in the price index, whether CPI or RPI). To the extent that these cuts in Bank Rate are passed on in interest rate cuts by banks and building socities, they will reduce the cost of borrowing. It is hoped that this, in turn, will result in a boost to aggregate demand – particularly in the run-up to Christmas.
Below is a selection of articles relating to the interest rate cuts, with many commentators wondering if the cuts will be enough and whether interest rates have much lower to go. For some background on interest rates, you may like to look at the History of Britain’s interest rate published by the Times Online. Martin Rowson’s cartoon in the Guardian clearly summarises the view that this may not be enough to revive an ailing British economy!
Bank enters uncharted territory BBC News Online (4/12/08)
Q&A: The Bank Rate cut and you BBC News Online (12/12/08)
Where will interest rates go now? BBC News Online (4/12/08)
Bank of England still has ammunition for the new year Guardian (4/12/08) Video
Farwell, convention Guardian (5/12/08)
No doubt that we’ve got further to go in this rate cutting Guardian (5/12/08) Podcast
Bank cuts rate by 1% to historic low Times Online (4/12/08)
Analysis: Shock and awe of rate cut Times Online (4/12/08)
Rates cut again as recession deepens Times Online (5/12/08)
Unconventional steps may slow the slide into global recession Times Online (7/12/08)
Bank cuts UK rates to 57-year low Times Online (4/12/08)
Questions
Governments around the world have been reacting to the global financial crisis by cutting interest rates in the hope that an expansionary monetary policy will help prevent recession or perhaps minimise the length, depth and severity of recession. In the articles below, we look at interest rate cuts in some countries, but there are many others. Why not use Google news or an equivalent site to try to find some more examples?
Europe
ECB rate cut sets tone for worldwide attempt to spark stalled economies Times Online (5/12/08)
Is the ECB dragging its heels? BBC News Online (4/12/08)
ECB cuts eurozone rates to 2.5% BBC News Online (4/12/08)
Sweden
Sweden, like us, seems to have things in hand Times Online (5/12/08)
Sweden cuts interest rates to 2% BBC News Online (4/12/08)
mesSweden cuts interest rates to 2% BBC News Online (4/12/08)
Australia
Australia cuts interest rates to seven year low Times Online (2/12/08)
Thailand
Large cut in Thai interest rates BBC News Online (3/12/08)
China
China’s central bank cuts rates BBC News Online (26/11/08)
Questions
- Explain the transmission mechanism whereby cuts in interest rates are transmitted to an increase in consumer expenditure.
- Using diagrams as appropriate, show how interest rates are determined in the money markets.
- Discuss the relative effectiveness of monetary policy and fiscal policy in boosting consumer expenditure.
Some economists believe that deflation is now a more serious threat than inflation. If this is the case then conventional monetary policy may not be enough to prevent deflation. In the article below, Gavyn Davies argues that the solution is to start thinking like South American dictators and print more money!
We must start thinking like South American dictators Guardian (13/11/08)
Questions
- Explain what is meant by “deflation”.
- Examine the link between deflation and depression.
- Explain why deflation requires a different policy response from inflation.
- Discuss the likely success of a policy of “printing money” in preventing deflation.
- Assess the impact of financing tax cuts through the sale of government bonds in a deflationary situation.