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The Bank of England is expected to reduce interest rates to yet another record low at lunchtime; but with their rate-cutting ammunition all but exhausted, governor Mervyn King and his colleagues are expected to press the button on a much more drastic policy — quantitative easing.
As the recession deepens, weakening wage growth, plunging oil prices and consumer demand are threatening to drag inflation well below the Bank's 2% target.
With interest rates already at a historic low of just 1%, the monetary policy committee (MPC), which started its two-day monthly meeting yesterday morning, believes further cuts will not be enough to kick-start the economy.
Alistair Darling, the chancellor, has to give his permission for taxpayers' money to be put at risk, so he and King will exchange quick-fire letters tomorrow morning, detailing how much the Bank can spend on quantitative easing, and what exactly it will be allowed to buy.
Quantitative easing is popularly known as "printing money," but it doesn't actually involve turning on the presses. It actually means that the Bank will buy billions of pounds of assets, usually government bonds, from cash-strapped banks, in the hope that they will push the money back out again in loans to the public.
"It is very evident that quantitative easing is now going to take the leading role in the Bank of England's further efforts to stimulate economic activity," said Howard Archer, of consultancy Global Insight.
Archer also believes that rates could be cut by another 0.5% at the end of the MPC's meeting, which began yesterday, although the decision is not clear-cut. "Such a move is not a cast-iron certainty given the MPC's concerns about the negative repercussions that even lower interest rates might have on the banking sector and also some doubts about how much benefit another reduction will have," he said.
By making more funds available to the banks, King and fellow members of the nine-member MPC hope to drive down interest rates right across the economy.
At his quarterly inflation report press briefing last month, King said: "Further easing in monetary policy may well be required. That is likely to include actions aimed at increasing the supply of money in order to stimulate nominal spending." In the minutes from its February rate-setting meeting, members of the MPC said: "It is unlikely that the inflation target could be met solely by cutting bank rate."
Quantitative easing is the Bank's contribution to an intensive onslaught on the worsening recession. The Treasury is still in negotiations with Lloyds and other banks about its third bail-out of the embattled sector, following last week's deal with RBS; while Darling is drawing up plans for a fresh spending splurge in his budget next month.
The latest economic data shows that support is desperately needed. Activity in the UK's services sector shrank again in February, although at a slower rate than in January. Economists said the data was a sign that GDP was continuing to contract, but offered hope that the crisis may be bottoming out.
- Quantitative easing
- Bank of England
- Economics
- Mervyn King
- Economic policy
- Interest rates
- Interest rates
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