HHere’s a riddle. The Bank of England is expected to hike interest rates for the sixth consecutive day on Thursday afternoon. Analysts across the board are expecting a half a percentage point rise — the largest single increase since the bank gained independence, when monetary policy was ultimately the responsibility of a chancellor named Ken Clarke.
But this week’s interest rate hike is not intended to cool down an overheated economy – far from it. Both the IMF and the OECD are forecasting that Britain will experience the weakest growth of any rich country next year, while the respected National Institute of Economic and Social Research (Niesr) believes the country will enter and stay in recession this summer will be well into next year. So why is the bank raising interest rates?
To listen to his Governor Andrew Bailey, it’s about signaling his commitment to keeping inflation at 2% – as he’s been told by the government. “Let me be very clear: there are no ifs or buts about our commitment to the 2 percent inflation target,” he said at dinner at the Mansion House last month. However, an increase in interest rates in the UK will reach exactly zero when it comes to lowering the price of wheat or oil in world markets. It is the global scarcity of raw materials that is driving prices up. Because of this, the Niesr expects inflation to rise to “astronomical” levels next year.
If wages don’t rise to keep up, then what we currently call inflation is really a form of rationing – rationing by price so the richest can afford to warm their homes and their cars this winter Filling up on gas while others can afford to fill up their homes on less money has some stark decisions to make. Freeze or starve? New uniforms for the kids or toys for Christmas? All that higher interest rates do in this scenario is increase economic pain, making mortgages and credit card bills another worry for families already stressed to pay for energy and groceries.
This mess is not Mr. Bailey’s creation. Rather, he could be considered the most unlucky bank governor since she was sacked in 1997. Mervyn King enjoyed what he called a “beautiful” decade (10 years of constant expansion without inflation); his successor, Mark Carney, was a shrewd politician who basked in the support of George Osborne. Mr Bailey has faced a pandemic of the century, global resource shortages and constant sniping from senior Conservatives. Some say he should have raised rates much sooner and much higher – most likely turning a recession into a depression. The frontrunner on the road to the next prime minister, Liz Truss, wants to rewrite the governor’s job description to make him even tougher on inflation.
Where Ms Truss has a point is that since 2010 the Tory government has relied on the bank to keep interest rates as generous as possible so that subsequent chancellors could be eager to rein in their spending. The result of this regime was to leave the bank very little leeway and encouraged a rise in the prices of houses, works of art and other assets. It has been a dangerous economic policy that has done nothing to direct money where it is most needed (such as public housing, public services and the incomes of the low paid). It should be reversed – but not in this arbitrary way that hurts businesses and households.
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