Quantitative easing criticised – bring on qualitative easing

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The FT reports this morning that there is a significant backlash against the US’s new round of quantitative easing. As they note:

The Fed’s initiative, in response to rising concern about the weakness of the US economy, has fuelled fears of a sharp drop in the dollar and a fresh flood of capital inflows into emerging markets.

China, Brazil and Germany on Thursday criticised the Fed’s action a day earlier, and a string of east Asian central banks said they were preparing measures to defend their economies against large capital inflows.

Guido Mantega, the Brazilian finance minister who was the first to warn of a “currency war”, said: “Everybody wants the US economy to recover, but it does no good at all to just throw dollars from a helicopter.”

Mr Mantega added: “You have to combine that with fiscal policy. You have to stimulate consumption.” Germany also expressed concern.

They’re right, of course. As i have explained, QE in this form is good at boosting bank profits. And it also does squeeze gilts out of the savings market — by (perversely at a time of increasing debt) restricting their supply. The consequence is that the ever growing pile of consumer and corporate savings in the world — the money that individuals and companies are putting aside for the rainy day that will look more like a hurricane that they know is coming their way — has to find another place to go.

The result is glaringly obvious. We’ve had asset price inflation — especially in the stock markets of the world. And we’ve had commodity price inflation, which is perhaps the most (and probably only) way QE is influencing inflation.

But what we really need is that people stop saving and get spending. Sure, we need that most of all in Germany and China, but actually we need it here too in the UK. We may not need new consumption spending to get the economy going — but there is a massive programme of capital works that we have to get on with. As Lord Skidelsky said in the House of Lords the other day:

Ministers are constantly exhorting banks to lend. Banks say that there are no borrowers, by which they mean borrowers at the going interest rate. However, here is a suggestion for overcoming this blockage which is consistent with the deficit reduction programme. The government should set up a national investment bank, which they would capitalise and mandate to spend £X billion a year on investment projects at interest rates low enough to fulfil the investment mandate. We are already promised a tiny prototype of this in the proposed green investment bank. Candidates for such investment would be infrastructure projects such as the high-speed rail link mentioned by the noble Lord, road building and repairs, house construction by local authorities, or projects to do with carbon emissions-insulating houses, solar panels and so forth. Lending by the investment bank would not affect the deficit and so would not spoil Mr Osborne’s austerity story. True enough, subsidised interest rates imply a lower expected return on equity than from current lending, but a lower return is still better than no return, which is what idle capital now earns.

This is, of course, the Green New Deal by any other name.

Financed by the Bank of England in the same way that in quantitative easing 1 the Bank of England supported the banks this then becomes qualitative easing — providing the essential boost to spending that the economy needs. In turn it boosts the private sector, puts people back to work, increases all tax yields, reduces benefit payments, provides assets that pay a long term rate of return a lot higher than the tiny real cost of issuing debt right now (and for the sake of financial discipline I see the importance of that, even in a qualitative easing programme where the real cost of the money issued is nothing) and most of all it rebalances the fundamental equation which is failing in the economy right now. That equation is:

Government deficit = private saving — investment +- trade balance

The trade balance is negative and is going to stay that way.

With real interest rates close to 0% people are saving for reason of fear, not return right now so monetary policy can't change the outcome to reduce saving now. Therefore it is only investment that the government can control. Which is why it has to focus on this issue.

Qualitative easing will do just that. We need a Green New Deal financed in the short term in the way Skidelsky describes.

Are you listening Alan Johnson?

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