UK’s monetary easing was necessary despite some drawbacks
The Bank of England has often had to fend off charges that years of easy money worsened inequality.
It recently released a study concluding the opposite: that nine years of asset purchases that pumped £375 billion (Dh1.95 trillion) into a faltering world economy didn’t widen inequality after all.
The BOE is saying here that if you net out the various effects of the period of central bank easing between mainly 2008 and 2014 on different groups, monetary policy had a negligible impact on net wealth.
Problem is, if you net out the effects, you miss the real story of QE’s impact.
The bank looks at the effect of monetary policy on households divided by income and age group and those effects vary widely. The disparities between groups are important – for not only do they explain why QE has failed to trigger inflation, but they point strongly to a QE contribution to the more polarised political environment we are now seeing.
For example, young people found their incomes disproportionately bolstered by QE, while older people saw interest on their savings stagnate. The effects can be said to approximately balance out.
However, as the data shows, older households experienced a greater increase in net wealth, in particular with QE steadily supporting house prices. Young people may have held on to their jobs, but they saw the price of home ownership rise out of reach, creating what is now referred to in Britain as “generation rent”. In other words, not only did the poorest benefit far less, but the dreams of the youngest to build a stake in society were pushed further away.
This explains why inflation targeting does not work in these circumstances. Wealthier people have a low marginal propensity to consume and a higher propensity to save than the poorest. Those with the means took advantage of low-interest loans and ploughed any QE-dividend into financial assets or real estate.
Since most of the money created by QE was funnelled to the wealthiest, they reinvested it rather than consumed it, triggering asset inflation rather than consumption inflation.
The growing disparity between those who can and can’t afford to own their homes has political consequences, too. Belief in social mobility has fallen to a new low in the United Kingdom, with close to three out of four Britons reporting it to be fairly or very difficult to change their material circumstances. It looks to many Britons that the wealthy magically saw their wealth increase in recent years.
As polling analyst Matt Singh recently observed for Bloomberg View, home ownership turned out to be a deciding factor in the 2017 elections that saw the Conservative government lose its majority. QE widened the disparity between owners and renters and the impact was felt in the polls.
This worsening of inequalities was not intended by central banks; nor did they have much choice in pursuing QE, given the circumstances of the financial crisis.
The BOE’s study shows the counterfactual: that not having acted would have made things worse for all these groups. If inequality is reduced because all households are growing poorer, that’s not a happy outcome either.
Bloomberg reported last week that the BOE chief economist issued a defence of monetary policy loosening in response to the financial crisis, saying it didn’t contribute to inequality.
Andy Haldane said those actions kept people in jobs and put money in their pockets.
Mr Haldane measured the impact of monetary policy on different parts of society, and found that in the longer term, the average household has seen an income gain of around £1,500 a year from the BOE’s policy loosening and its effect on jobs and wages.
He said the measures led to larger income gains for the young because of improved job prospects, while wealth gains have been highest in money terms in older groups – as they tend to have more assets.
Critics of the BOE’s policy since the crisis say QE fuels asset bubbles and increases inequality, and that years of low interest rates have pushed down returns for savers. When the UK lowered its key rate after the Brexit vote in 2016, even Prime Minister Theresa May weighed in, saying that loose monetary policy had had some “bad side effects”.
Mr Haldane does concede that monetary policy does have “potent effects” on the economy over the short term, including, possibly, the distribution of resources. Rate changes redistribute interest payments between borrowers and savers, and asset purchases affect those with assets differently than those with debt, he said.
As to what this means for policymakers, Mr Haldane said there’s a case for making assessments of any distributional impacts on a regular basis so that people can understand the purpose and impact of policy on the economy and their individual finances.
Continuing to rely on QE to achieve the BOE’s inflation target will further boost asset inflation rather than consumer price inflation, artificially making the wealthy wealthier and building systemic risk by encouraging over-leverage.
And yet unwinding QE carries risks too, especially with the uncertainties of Britain’s European Union exit looming.
Far better for the government to find a way to ring-fence the large amount of national debt acquired by the bank and use the proceeds to invest in education, infrastructure and other areas to reduce inequality.
The solution is not to try to find rosier ways to look at the data. QE may have been necessary, but it was also hugely distortionary.
The BOE’s report helps in our understanding of exactly how.