With the Bank of England expected to cut interest rates, is looser monetary policy now a necessity for developed economies?

Alasdair Cavalla and Daniel Mahoney
Bank Of England Governor Mark Carney Presents Inflation Report
Mark Carney is expected to cut UK interest rates to 0.25 per cent (Source: Getty)

Alasdair Cavalla, senior economist at the Centre for Economic and Business Research, says Yes.

For central banks, today’s world looks very different to before the crisis. In a deflationary era, the trade-off between inflation and growth could hardly have moved further in the doves’ favour. China’s rise leaves unprecedented imbalances: overcapacity of supply; abundance of capital; and paucity of investment opportunities. More QE would be risky. Its still-mysterious effects, including a tendency to bloat property assets rather than encourage real economy investment, would be unhelpful at present. But interest rates should fall. The other dynamic is competitive devaluation. Exchange rates matter less for trade these days, especially in high-value products. UK exporters can hardly have been helped by a sky-high pound brought on by the Bank of England’s relatively strong monetary policy. By shoring up confidence in the Bank’s crisis management, a rate cut may boost the pound in the short-term, but soften it in the long run, helping hard-pressed manufacturers. Brexit has left an easy decision for Mark Carney.

Daniel Mahoney, head of economic research at the Centre for Policy Studies, says No.

Ultra-loose monetary policy is already storing up risks for many developed economies. Persistently low interest rates are leading to a major misallocation of capital, with companies becoming less productive and more indebted, and borrowing for unworthy investments. This has, in part, led to global corporate debt growing from $38 trillion to $56 trillion since 2007, according to McKinsey. Low rates and QE are also contributing to wider financial instability. In the UK, these policies are leading to dangerous levels of asset price inflation, growth in household indebtedness and the prospect of rapidly increasing inflation more broadly. And undoubtedly, a further loosening of monetary policy will only exacerbate these risks. While, of course, policymakers need to respond to uncertainties arising from Brexit, it would be ill-advised for the UK and other developed nations to push for a further relaxation of monetary policy, which would only lead to greater risks for global financial stability.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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