Counting the Quacks of Quantitative Easing

The squeeze on real wages shows in our chart above. Gross pay has risen much less quickly than inflation, which has raced ahead at almost twice the pace of the Bank of England's official 2.0% annual target. By February 2012, and three years after it started, the avowed aim of quantitative easing – of boosting inflation, to insure against the fat chance of it ever falling below target – had cost the average wage-earner £1,410 in spending power.

That's the cumulative gap between what wage-earners actually made, adjusted for inflation, and what they would have made if the Bank had indeed hit its 2.0% target. Call it the cost of quantitative easing: £1,410 in real spending power. Now add the real loss imposed on bank savings too, and that cost today runs – on average – to £3,241 for every household where one person works. Families with two or more workers are worse off again.

Tell me, does it hurt when I punch you here?

"Now, that [loss in real pay] is not the result of inflation being high. Inflation is the symptom. The causes of that squeeze on living standards are real causes. They are a change in world prices of energy, and the utility prices of gas and electricity. They are the consequences of higher value-added tax, higher food prices, and a consequence of a fall in the real exchange rate, which was necessary for us to be able to rebalance our economy in the way that was vital after a prolonged period of a relatively over-valued exchange rate."

Let's put Dr.King's prognosis in layman's terms, shall we?

The pound's exchange rate fell, pushing up prices;

Fuel and food energy prices were rising anyway;

The rise in VAT sales tax (from 17.5% to 20%) made things worse.

Number 3 was of course a fiscal decision, made by the Treasury, not the Bank. But "real causes" 1 and 2...? How did those boils break out?

"Countries with faster growth rates of money experience higher inflation," said a younger, less care-worn Dr.King back when he was deputy, rather than running the clinic. And "it is clear...that the correlation between money growth and inflation is greater the longer is the time horizon over which both are measured."

Quantitative easing appeals to just the same mechanism today. More money means more inflation. Meaning that injections of money are sure to raise the cost of living. They're also sure to depress the currency's exchange rate, especially if the injection goes unsterilized – a disaster in medicine, of course, but very necessary in monetary policy apparently. Because "sterilization" would mean withdrawing the same quantity of money as you inject, by selling bonds to the very same value, thus negating its impact entirely.

Nurse! Wipe this needle on the doormat outside would you?

Reading the Bank of England's notes from its latest consultancy, we guess they really believe that inflation means recovery will follow. Because inflation rarely exists without economic growth, or so runs the logic. Hyperinflationary depressions are the unspoken exception, of course (see Weimar Germany, post-war Austria and Hungary, Argentina time and again, Zimbabwe a decade ago). But we're too clever, too modern, to stand any risk of wheelbarrow money today, just like Victorian banking runs or financial panics cannot happen now. And more money must mean more spending, right? Because if it doesn't, then we'll just keep injecting the patient until he starts spending on something...anything!

"Interest rate less than the inflation rate boosts gambling businesses, on gold and foreign exchange markets," said governor of the Central Bank of Iran, Mahmoud Bahmani, a few days ago. His colleagues in London, Washington and Frankfurt have seen the very same results come back from the lab. Because people buy gold when they fear or lose out to inflation. Others trade currencies, and still more find themselves basing all financial decisions – from buying a house, to taking a job or lending to business – on a wild speculation about what the next wild move from the central bank might be.

Unlike Bahmani, the US, UK and Euro authorities refuse to raise rates, but for now the Iranian doctor's got much further to go. Tehran's base rate now stands at 6%. Inflation is running above 21% per year – making for the kind of negative real rate not suffered by Western workers and savers outside mid-1970s Britain. Gold has again helped ease the pain of zero-rate money printing since 2009. Every fresh dose of unsterilized money is likely to indicate a greater dose of gold buying, too.

 

Back in the doctor's surgery, meantime, and let's not forget that the Bank of England's collective PhD brains are savers and workers as well. We are all in this together, remember.

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