SMPC call for a raise in interest rates for the first time since Sept 2011

Published on Monday, 04 February 2013 10:23
Posted by Vicki Mitchem

On a vote of six to three, the IEA Shadow Monetary Policy Committee has recommended a rise in Bank Rate in February. This is the first recommendation of a rate rise since September 2011.

The recommendation was partially a response to a realisation that fiscal policy seems even further off course than was previously believed, and thus risks damaging the credibility of all UK policy making. Another reason for the recommendation is that the lull in the storms engulfing the euro zone provides an opportunity to raise the Bank Rate while the markets are still reasonably calm.

However, there are noticeable differences between the SMPC majority, who wanted a rate rise, and the approach more commonly favoured by the MPC, other UK policy makers and the financial media. In particular, it was believed that the almost unprecedented degree of government intervention in the UK economy in recent years was leading to major supply-side problems  preventing the re-allocation of resources from zombie sectors to those with genuine growth potential. It was also feared that sustained artificially low interest rates were leading to a growth-destroying misallocation of capital. Furthermore, SMPC members were concerned that the authorities should not be using lax monetary policy as a substitute for addressing the supply side problems that are leading to low growth.

There was disagreement as to the extent to which rates should rise. Whilst two members wanted rates to rise by ½% - which would have been the traditional policy response in the past, when rates came down in quarters but rose in halves - four called for rates to rise by ¼%. The main reason for limiting the recommended rise to a ¼% was to avoid an undue shock to the financial markets after such a long period of stasis.

All those who voted to raise rates expressed a bias to raise rates further. The minority of three SMPC members believed that  there was a genuine demand shortfall, which would be alleviated by additional monetary stimulus. Most SMPC members thought that there should be no additional Quantitative Easing (QE) for the timebeing, however.

Source: ©iea

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