Mervyn King: this may be worse than the Great Depression

Bank of England to print an extra £75bn to combat downturn

The Bank of England caught financial markets by surprise yesterday by announcing that it will inject £75bn into the ailing British economy over the next four months.

The sharply slowing economy and intensifying threats to the health of Britain's banks posed by the eurozone crisis will lead the Bank to extend its £200bn quantitative easing (QE) programme – effectively printing money.

"This is the most serious financial crisis we've seen at least since the 1930s, if not ever," warned the Bank's Governor, Sir Mervyn King, in a stark reference to the Great Depression.

"We're having to deal with very unusual circumstances, and to act calmly and do the right thing. The right thing at present is to create some more money to inject into the economy."

The UK economy has flatlined over the past year, the Office for National Statistics confirmed earlier this week, downgrading its estimates for GDP growth in the second quarter of 2011 to just 0.1 per cent. Although City analysts had expected an extension of the QE policy – in which the Bank creates new money and uses the proceeds to buy up government bonds, with the aim of injecting money into the economy and prompting spending – they had not expected the Bank to push the button on a new stimulus until next month. The size of the injection of money also surprised investors. Most had been expecting another round of asset purchases of around £50bn. When the Bank's purchases are complete it will own around 24 per cent of the outstanding stock of British government debt.

The Bank, which left interest ratesat a historic low of 0.5 per cent yesterday, dismissed the argument that asset purchases will stoke inflation, which at the moment runs at more than double the Bank's official target.

On the contrary, the Bank's Monetary Policy Committee said, price pressures throughout the economy are receding as the economy weakens and QE is needed to help Britain avoid a deflationary slump. "The deterioration in outlook has made it more likely that inflation will undershoot the 2 per cent target in the medium term," it said. "In the light of that shift in the balance of risks... the Committee judged that it was necessary to inject further monetary stimulus into the economy."

However, the pensions expert Ros Altmann called the extension of QE a "titanic disaster", saying that it will depress the interest rates on the government bonds that provide many retirees with an income. "Falling bond yields make annuities more expensive, giving new retirees much less pension income for their money, leaving them permanently poorer," she said.

The Bank's primary concern, though, is the immediate health of the broader economy. And yesterday's statement also said that "the scale of the programme will be kept under review", implying that more asset purchases could be announced if the economic outlook deteriorates further.

The Chancellor, George Osborne, gave his approval to the decision and confirmed in a letter to Sir Mervyn that the Treasury is planning to implement its own monetary stimulus, which will involve the purchase of corporate bonds. The Chancellor wrote: "Given evidence of continued impairment in the flow of credit to some parts of the real economy, notably small and medium-sized businesses, the Treasury is exploring further policy options."

But the shadow Chancellor, Ed Balls, argued yesterday that the extension of QE will not be sufficient to rescue the faltering British recovery: "While another round of QE may help, I fear it will do little to create the jobs and growth we desperately need if we are to get the deficit down. What we really need is a change in fiscal policy."

Between March 2009 and January 2010, the Bank of England purchased £200bn of British government bonds, known as gilts. The Bank published research last month which suggested that the policy raised national output by as much as 2 per cent.

The announcement of a fresh round of QE is a victory for Adam Posen, the dove on the Bank's interest-rate setting committee. The US economist has been a lone voice on the MPC calling for an extension of asset purchases. Six months ago, the MPC was moving towards approving an interest-rate rise in order to dampen inflation expectations. And, right up until last month, Mr Posen was still the only member of the committee who voted for more QE. But this week the pendulum swung, decisively, towards his long-standing position.

Quantitative easing: A simple guide

The Bank of England wants to boost the economy by creating more money. But how precisely would this work? The primary purpose is to push down long-term lending rates, making it cheaper for companies to borrow and encouraging them to invest. A secondary effect is that those who sell bonds to the Bank, such as private banks and pension funds, spend the proceeds by lending or buying shares, and rising asset prices boost economic confidence. But does it work?

Adam Posen, the MPC member who has pushed for more quantitative easing, says that it does. And Bank of England research released last month purported to show that QE had had "economically significant effects". Yet others maintain that banks sit on gains from the Bank's bond-buying programme, failing to lend it out, and that pushing down borrowing rates does no good when businesses are not interested in investing, no matter how cheap credit is. The Bank's research did also say that its findings were "highly uncertain".

No one expects QE to have revolutionary effects so the Chancellor this week announced "credit easing", which would involve the Bank of England buying up the debt issued by small companies, rather than by the Government.

Ben Chu

PROMOTED VIDEO
News
ebooksAn unforgettable anthology of contemporary reportage
Voices
Oscar Pistorius is led out of court in Pretoria. Pistorius received a five-year prison sentence for culpable homicide by judge Thokozile Masipais for the killing of his girlfriend Reeva Steenkamp
voicesThokozile Masipa simply had no choice but to jail the athlete
Arts and Entertainment
Sister Cristina Scuccia sings 'Like a Virgin' in Venice
music

Like Madonna, Sister Cristina Scuccia's video is also set in Venice

Arts and Entertainment
James Blunt's debut album Back to Bedlam shot him to fame in 2004
music

Singer says the track was 'force-fed down people's throats'

News
i100
Life and Style
The Tinder app has around 10 million users worldwide

techThe original free dating app will remain the same, developers say

Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Helpdesk Analyst

£23000 per annum + pension and 22 days holiday: Ashdown Group: An established ...

Senior Helpdesk Analyst / Service Desk Co-ordinator

£27000 per annum + pension, 22 days holiday: Ashdown Group: An established ind...

Senior Pensions Administrator

£23000 - £26000 Per Annum: Clearwater People Solutions Ltd: Our client is curr...

Corporate Actions Administrator / Operations Administrator

£25 - 30k: Guru Careers: A Corporate Actions Administrator / Operations Admini...

Day In a Page

Two super-sized ships have cruised into British waters, but how big can these behemoths get?

Super-sized ships: How big can they get?

Two of the largest vessels in the world cruised into UK waters last week
British doctors on brink of 'cure' for paralysis with spinal cord treatment

British doctors on brink of cure for paralysis

Sufferers can now be offered the possibility of cure thanks to a revolutionary implant of regenerative cells
Let's talk about loss

We need to talk about loss

Secrecy and silence surround stillbirth
Will there be an all-female mission to Mars?

Will there be an all-female mission to Mars?

Women may be better suited to space travel than men are
Oscar Pistorius sentencing: The athlete's wealth and notoriety have provoked a long overdue debate on South African prisons

'They poured water on, then electrified me...'

If Oscar Pistorius is sent to jail, his experience will not be that of other inmates
James Wharton: The former Guard now fighting discrimination against gay soldiers

The former Guard now fighting discrimination against gay soldiers

Life after the Army has brought new battles for the LGBT activist James Wharton
Ebola in the US: Panic over the virus threatens to infect President Obama's midterms

Panic over Ebola threatens to infect the midterms

Just one person has died, yet November's elections may be affected by what Republicans call 'Obama's Katrina', says Rupert Cornwell
Premier League coaches join the RSC to swap the tricks of their trades

Darling, you were fabulous! But offside...

Premier League coaches are joining the RSC to learn acting skills, and in turn they will teach its actors to play football. Nick Clark finds out why
How to dress with authority: Kirsty Wark and Camila Batmanghelidjh discuss the changing role of fashion in women's workwear

How to dress with authority

Kirsty Wark and Camila Batmanghelidjh discuss the changing role of fashion in women's workwear
New book on Joy Division's Ian Curtis sheds new light on the life of the late singer

New book on Ian Curtis sheds fresh light on the life of the late singer

'Joy Division were making art... Ian was for real' says author Jon Savage
Sean Harris: A rare interview with British acting's secret weapon

Sean Harris: A rare interview with British acting's secret weapon

The Bafta-winner talks Hollywood, being branded a psycho, and how Barbra Streisand is his true inspiration
Tim Minchin, interview: The musician, comedian and world's favourite ginger is on scorching form

Tim Minchin interview

For a no-holds-barred comedian who is scathing about woolly thinking and oppressive religiosity, he is surprisingly gentle in person
Boris Johnson's boozing won't win the puritan vote

Boris's boozing won't win the puritan vote

Many of us Brits still disapprove of conspicuous consumption – it's the way we were raised, says DJ Taylor
Ash frontman Tim Wheeler reveals how he came to terms with his father's dementia

Tim Wheeler: Alzheimer's, memories and my dad

Wheeler's dad suffered from Alzheimer's for three years. When he died, there was only one way the Ash frontman knew how to respond: with a heartfelt solo album